Futures

Futures are one of the most common derivatives and play a vital role in financial markets. Futures can be used as a reference for the expected price direction of a variety of products, such as commodities, stocks and interest rates, as well as for raw material purchases and market fluctuations.

Unlike the in stock market (where payment is made at the current price of the product and delivery is immediate), a futures contract is an agreement to buy the product at a future date at an agreed price.

Many companies that rely heavily on fuels and raw materials (e. G. Metals sold on commodity exchanges) are vulnerable to speculative price fluctuations, while futures contracts help to "iron out" price fluctuations, because the price of goods for delivery in 12 months may be lower than the current in stock price.

In addition, non-physical assets can also be traded as futures. Two of the most popular futures are stock index futures and interest rate futures, which are often used by portfolio managers as hedging strategies.

Suppose you are a purchasing specialist for Alpha, a manufacturer of cast aluminum products. Most of your metals are purchased from the in stock market, but due to seasonal factors, your orders for products will increase significantly in the second half of this year.

The current price on the in stock market is $1,700 per ton, but according to the futures market, you can buy goods for delivery in five months at $1,600 per ton. As long as the in stock price stays above $1,600 per ton for the next five months, you can save the company a lot of money.

Who is the winner?

If you're lucky, the winner is, of course, you. If the in stock price is $1,700 per tonne when the futures contract expires five months later, the other party to the futures contract should pay you $100 per tonne. The danger is that you may eventually find yourself making the wrong bet. If the in stock price drops to $1,500 per ton after five months, you should pay $100 per ton to the other party to the futures contract.