Ins And Outs Of Commodity Futures Trading

Over the years a lot of people have made a killing in the commodity futures trading markets. This is one of a small number of investment areas where huge profits can be made with a limited amount of capital, in a relatively short period. However, on the other side of the coin, many people have lost money, consequently commodity futures trading has a poor reputation, being considered too much of a risk by the average person. But at the end of the day, commodity trading is only as risky as you make it.

Those traders with the get rich quick mentality have the highest probability of losing, because they take risks. If you are more cautious, have a business approach to your trading instead of looking at it as a big roulette table, and can settle for a moderate return, the risk is minimised. Then the pendulum swings toward a probable success.

Futures trading is a process whereby you trade commodities. It is different to other investments, in that you do not actually own or buy anything. What you are doing is speculating on the possible future direction of the price of a commodity that you are trading. This is like having a bet on predicting which way prices will go. The terms buy and sell are merely indicators of what directions you expect the future price to take.

As an example, if you were speculating in wheat, and you thought the price might go higher in the future, then you would purchase a futures contract. There is never a shortage of buyers and sellers for any trade. Neither of the two people involved actually has to own any wheat to be able to trade. However, the trader does need to have sufficient funds in his broker account, to pay any losses should money be lost on the trade.

One participant in the transaction could be a primary producer such as a cane farmer, who has a field of sugar cane growing on his farm. But the crop won’t be ready for harvest for two months, during which time the price could go down, so he sells a future contract which is equivalent to the size of his expected crop, and then supplies the sugar cane to fulfil his obligation under the terms of the contract. Immaterial to how sugar cane prices change in the next two months, he will be paid the current price.

Apart from agricultural commodities, you will find futures for financials, and currencies plus other intangibles. Every futures market will have consumers plus producers who need to lessen their risk of price inflation or fluctuation respectively. The speculators, who don’t actually deal in any of the physical commodities, provide the liquidity.

Instead of taking or making a delivery, a speculator is simply offsetting a position before the expected future delivery date. Dependent on which way the price moves he will either gain or lose, hence the term speculate.

The role of the speculator is to provide liquidity to the commodity futures trading market, and taking on board the risk associated with price fluctuation. From a speculator’s perspective, the substantial gains that can be made make it worth their while to participate.

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4. Currency Futures Trading
5. Novice Introduction To The Futures Trade