What Is A Futures Contract

What Is A Futures Contract? How Do They Work?

A futures contract is a standardized legal agreement to buy or sell a commodity at a predetermined price at a specified time in the future. The main difference between a futures contract and other standardized agreements is the relationship of the parties involved in the transaction. In a typical legal agreement, both parties are known to each other.

However, in a futures contract, the parties can be unknown. All transactions occur on a regulated futures exchange. Therefore, the parties don’t need to have an acquaintance because the futures exchange serves as an intermediary between the buyer and seller.

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First Futures Contracts

The first futures transaction occurred on 3 April 1848, with the opening of the Chicago Board of Trade (CBOT). Futures trading has exploded in popularity since the first contract was traded 173 years ago. Today, several million contracts are traded daily around the world. In fact, according to the Futures Industry Association (FIA), 34.47 billion futures contracts were traded in 2019.

Commodity futures contracts are composed of several different groups that represent various sectors of the global economy. Specifically, contracts are divided into nine categories.

Cryptocurrencies – Bitcoin, Ethereum

Currencies – Aussie Dollar, British Pound, Canadian Dollar, Euro FX, Japanese Yen, Swiss Franc

Energy – Crude Oil, Gasoline, Heating Oil, Natural Gas

Grains – Corn, Oats, Rough Rice, Soybeans, Soybean Meal, Soybean Oil, Wheat

Interest Rates – Eurodollars, Treasury Bonds, Treasury Notes

Livestock – Feeder Cattle, Live Cattle, Lean Hogs

Metals – Copper, Gold, Palladium, Platinum, Silver

Softs – Cocoa, Coffee, Cotton, Orange Juice, Sugar

Stock Index – Mini Dow, Mini NASDAQ, Mini SP

Based on the fact that futures contracts derive their value from an underlying asset, they are considered derivatives products. As such, futures contracts are inherently volatile. The volatility exists because all contracts are purchased on margin, which means that each transaction is considered a leveraged transaction.

Brief Summary of Futures Contracts

  • Futures contract is a standardized legal agreement to buy or sell a commodity.
  • The transaction occurs at a predetermined price at a specified time in the future.
  • All transactions occur on a regulated exchange.
  • The futures exchange serves as an intermediary between the buyer and seller.
  • The first futures exchange was the Chicago Board of Trade (CBOT).
  • CBOT completed the first futures transaction on 3 April 1848.
  • Today, several million contracts are traded daily around the world.
  • According to the FIA, 34.47 billion futures contracts were traded in 2019.
  • Commodity futures contracts represent various sectors of the global economy.
  • Futures contracts are divided into eight different categories.

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