Definition
The financial investing term futures contract refers to a standardized agreement between two parties to buy and sell a commodity or security at a pre-determined price on a future date. Futures contracts are traded on an exchange, and can be settled in either cash or physical delivery of the commodity or financial instrument.
Explanation
Futures contracts are standardized agreements between two parties, which are traded on an exchange. Also known as futures, these contracts involve margin true-ups, and are marked-to-market over time. Futures contracts are oftentimes sold before the expiration date, and the agreement will outline:
Quantity: the units of the commodity bought or sold (bushel, pound, metric ton)
Delivery Location: the physical location of the commodity on the expiration date (oftentimes shipping ports).
Quality: an indicator of the specific commodity (type of corn) or an indication of its quality (moisture content, impurities)
* Pricing Unit: dollars or cents per unit of commodity
The party purchasing the commodity is said to be taking a long position, while the seller is assuming a short position. As the price of the underlying asset changes over time, futures contracts are marked-to-market on a daily basis. Traders will need to open a margin account, which is used during the daily settlement process.
Most futures contracts are settled in cash, and traders close out their positions before they expire. Unlike forward contracts, which are primarily used as a hedge against future price movements of the underlying asset, futures contracts are valued by speculators as well as hedgers.
Example
A trader enters into a futures contract to buy 5,000 bushels of corn at $2.65 per bushel for delivery in September. The following day, that futures price for corn delivered in September is now $2.62 per bushel. Since the trader has agreed to buy the corn at $2.65 and its price is now $2.62, the difference ($2.65 - $2.62) x 5,000 bushels, or $150, would be deducted from their margin account.
Related Terms
The term equipment trust certificate is used to describe a debt instrument that is held by a trust and secured by a specific asset. Equipment trust certificates are typically backed by an asset that can be readily transported and sold. Once the debt has been repaid, ownership of the asset is transferred to the issuer of the certificate.
Moneyzine EditorJanuary 17th, 2024
The financial investing term forward contract refers to an agreement between two parties to buy and sell an asset at a pre-determined price on a future date. Forwards are non-standardized contracts, which can be settled in cash or physical delivery of the asset.Moneyzine EditorJanuary 18th, 2024
The financial investing term margin account refers to money set aside by securities traders to reduce their credit risk with a broker. When securities are purchased "on margin," the investor is using their brokerage firm's funds to help finance the transaction. Margin accounts allow the investor to realize greater gains as well as losses.Moneyzine EditorJanuary 24th, 2024- The investing term stock exchange specialist refers to a member of a stock exchange that assists in the trading of certain stocks. The principal duty of a specialist is to match buyers of stocks with sellers, thereby ensuring liquidity in the stocks they trade.Moneyzine EditorSeptember 21st, 2023
