CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. Between 51% and 89% of retail investor accounts lose money when trading CFDs. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.
History of Futures Contracts
Trading of futures contracts dates back several centuries. The Dojima rice exchange, where rice futures contracts were first traded in Japan, was opened in 1697 by the Samurai. At this time, the measure of wealth in Japan was rice, and those who had lots of it were the ones who had economic control of the Japanese empire. The Samurai represented the elite class of citizens in Japan and so establishing the Dojima rice exchange where rice could be traded was a means of ensuring continuity of the system of wealth control at the time.
New futures exchanges across key trade areas began to emerge by the 19th century. The formation of the Chicago Board of Trade (CBOT) in 1848 ushered a new era in futures market trading. Most futures trading at the time was being done on agricultural commodities, and this was reflected in the CBOT where grains were the most traded commodity at the time the market took off. The latter half of the 19th century brought the birth of futures markets for coffee, cotton and produce, all in the United States.
Over the years, more futures trading markets have been born across the world. Today, there are futures trading markets for agricultural assets, metal assets, currencies and even bonds in Canada, UK, Singapore, New Zealand, Japan, Australia and the US. The market structure has changed tremendously too, as more assets are now traded as futures. In order to protect the integrity of the markets and the contracts traded therein, agencies were formed to provide regulatory oversight. The Commodities and Futures Trading Commission (CFTC) is the official regulatory agency for the futures markets in the US. There is a synergy between the CFTC and other regulators across the world to ensure that the futures markets remain transparent and that market confidence remains high.
Futures Contract Industry Facts
The CME Group offers the widest range of futures contracts in the world. The CME Group provides information about the leading futures and options contracts through its quarterly Leading Products Quarterly Report. The report for Q4 2016 shows the latest futures contract industry facts in terms of Average Daily Volume (ADV), percentage traded and open interest, on a quarter-on-quarter as well as a year-on-year basis.
Popular Types of Futures Contracts
What are the most popular futures contracts traded on the various futures exchanges? Traders can expect to encounter the following futures asset categories:
Currency futures: Currencies can be traded as futures assets. These are mostly setup in order to protect the buyers and sellers involved from future currency price fluctuations. Currency price fluctuations may make a deal more expensive to execute (for buyers) or cause sellers of a product to lose money. Agreeing on a currency price to execute a deal for the future ensures the protection of both parties in case the currency fluctuation makes it less desirable to execute such deals.
Agriculture futures: Again, the essence of setting up agricultural futures is to protect buyers and sellers of agricultural commodities from unforeseen circumstances. Weather, drought, product glut and other environmental factors can adversely affect prices of agricultural commodities. By setting up futures contracts, the price at which delivery of the commodity occurs in the future protects the buyers and sellers of such commodities from untoward events.
How to Read Futures Contract Specifications
What are contract specifications? Contract specifications can be described as the individual characteristics that each futures contract are composed of.
All futures contracts have the following contract specifications:
- Trading screen name for the futures asset
- Trading/contract symbol
- Minimum contract size
- Minimum units for trading and mlitiples of trading units
- Currency that the asset is traded in
- Trading price
- Settlement price
- Minimum price fluctuation
- Expiration date for existing contract
- Contract series
- Business days
The crude oil futures asset will be used to demonstrate the interpretation of the contract specifications. Please note that a futures asset may have some specifications that are unique to it.
Differences between Futures and Options
Many people get confused by the concepts of futures and options. Most assets can be traded either as futures or as options. To fully understand the differences between futures and options, the definitions of both terms need to be looked at.
Options - An options contract gives the option holder the right but not the obligation to buy or sell the underlying asset within a certain time frame. This means that the holder of the option (i.e. the option buyer) can decide to allow the option to expire worthless if this will be a favourable route to take. No delivery of the actual product is involved.
Futures - A futures contract gives the buyer the right and the obligation to purchase a specified asset, and also gives the seller the right and the obligation to sell and deliver that asset at a specific future date, unless the holder's position is terminated before the expiration date set for the contract.
So what is the difference when trading an asset such as gold as a future or as an options asset?
Obligation: There is no obligation for an options holder to exercise the option by the expiration date. In contrast, there are obligations to both buyer and seller in a futures contract to fulfill the terms of their contract by the expiration date.
Delivery: Delivery of the asset is compulsory in a futures contract, but not so in an options contract.
Premiums: Apart from the regular commissions charged by brokers for trades in the futures and options markets, options trades require the payment of a premium, either from the dealer to the trader or from the trader to the dealer. Futures trades do not involve payment of premiums.
Contract sizes: Contract sizes are usually much larger for futures trades than for options. Therefore, the margin required for executing futures trades are much larger than for executing options trades.
How Profits are Made: Options allow the traders to make money in ways that are different from futures trades. Futures traders make money from the difference between the entry price and the expiry price of the asset. Options traders do not necessarily have to profit from the difference in prices (e.g. option sellers profit only from the premiums received).
CFDs Vs Futures: The Differences
What is the difference between a Contract-for-Difference and a Future? Several assets can be traded as CFDs and also as futures. A trader should at least know the basic differences between the two. The differences are listed here and an example is used of the crude oil asset to highlight these differences.
Delivery: CFD trading does not require the physical delivery of the asset being traded. The fact of physical delivery for futures trades has already been pointed out.
Futures contracts have less liquidity than CFDs. This is because CFD trades are usually performed with the brokers as the market makers, which ensures that there is always a counterparty for any CFD trade.
The commission structure of futures trades makes it cheaper for high volume traders to trade assets as futures contracts. Futures contracts are specifically structured to match high-volume, institutional-style traders. As such, there are high entry barriers in terms of margin and capital requirements, which make them inaccessible to smaller retail traders. Traders with smaller capital will find CFDs more accessible in terms of capital and margin requirements.
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