Futures trading is a way to profit from a security’s short-term price movements and trends, without actually owning the physical asset. A futures contract allows you to purchase a certain commodity or financial security at a time in the future for a price set today, and both parties agree to keep that promise.
One way to think about buying a futures contract is that you are essentially agreeing to buy something that has yet to be produced, a security that does not yet exist, at a particular price, that could go up or down when the product, or security, is released into the market. Buyers and sellers trading futures mainly enter into these contracts in an effort to hedge risk, or speculate about a product, security, and its market. Futures trading is not for the faint of heart. The futures market is risky, extremely liquid, and complex.
The Good, Bad, and In Between
While futures are not for the risk sensitive, a diverse range of people can benefit from investing in them. These securities are leveraged, speculative and aggressive traders can lose in a huge way, but these derivatives can also provide prudent tools to diversify portfolios, hedging losses in volatile markets. Opportunities for the sophisticated investor all the way to the green beginner to step into futures trading are more abundant than ever.
In the futures market, the players mostly fall into two categories: the hedgers and the speculators.
The hedgers are the manufacturers, importers, farmers, exporters, and more risk averse investors hoping to buy or sell in order to pin down the future price of a commodity that will be sold in the future in the open market. The plan is to hedge against price risks.
Those who hold the long position, the buyers, in futures contracts, aim to secure as low a price as possible. The sellers, holding the short end of the contract, hope to lock in as high a price as possible. The good part of the futures contract is that it provides a definite price for both parties, reducing price volatility risks.
Conversely, speculator’s goals are not to minimize risk, but instead aim to benefit from the obvious risks of futures. They hope to profit from the price fluctuations that hedgers protect themselves against. By increasing their risk, speculators hope to maximize their profits. These traders, sometimes called day traders, act quickly, entering the market to see profits by counterbalancing rising and falling prices by buying and selling for quick turn around.
All the World Is A Stage
With online trading at your fingertips, anyone can become a futures trader, but are urged to enter the market with caution. Unlike traditional traders, futures traders are cautioned to use only funds that are set aside for risk capital. The risks are high, so a good amount of cash that isn’t needed for other investments should be available.
As an investor, you can trade on your own behalf, using your own account without the help or advice from a professional. This requires some time for research, planning, and total focus on the market.
You can also open a managed account to participate in the market. Then, a broker trades on your behalf, following your directions, but with the reliance on the broker’s expertise.