An Introduction to Commodities
and Futures Contracts
A futures contract is a "vehicle" to buy or sell exchange traded commodities, curriencies, treasury bonds and stock indexes. In the United States there are eight exchanges in which case trade the above mentioned futures contracts. Here is a list of the most actively traded commodities, currencies, stock indexes and bond contracts traded on the various exchanges.
Exchange Futures Contracts Traded
CHICAGO BOARD OF TRADE Corn , Wheat, Soybeans, Soybean oil Soybean meal, oats, Treasury Bonds, Treasury Notes, Dow Jones Insustrial Average,
CHICAGO MERCANTILE EXCHANGE Live Cattle, Feeder Cattle, Lean Hogs, Pork Bellies, Swiss Franc, Deutsch Mark, Brittish Pound, Canadian Dollar, S&P 500, E-Mini S&P,
NEW YORK MERCANTILE EXCHANGE Crude Oil, Heating Oil
NYMEX DIVISION Unleaded Gas
COMEX DIVISION Gold, silver, platinum, palladium, Copper.
COFFEE, SUGAR AND COCOA EXCANGE Coffee, Sugar, Cocoa
MIDAMERICA COMMODITY EXCHANGE Corn, wheat, soybeans, soybean oil soybean meal, oats, Treasury Bonds Treasury Notes, Swiss Franc, Deutsche Mark, Canadian Dollar Brittish Pound. Lean Hogs, Live Cattle.
NEW YORK COTTON EXCHANGE Cotton, Frozen concentrated Orange juice.
A futures contract is a predetermined contract size and specification set by the exchange for each commodity (see contract specifications). When a speculator buys a contract of soybeans on the Chicago Board of Trade he or she knows that this is a 5000 bushel contract. There is no negotiation on contract size. There are two main reasons why a person or entity would buy or sell a futures contract. First, to speculate and attempt to profit on a price move. Second, futures contracts are used for hedging already owned inventory against an adverse price movement. Example; A jeweler is expecting a price rise in gold, he is anticipating that he will have to purchase 100 ounces of gold in the next 3 months, he will therefore buy a futures contract. The effect will be a profit if he sells his futures contract higher than he paid for it. He will pay more for the actual gold itself but the profit from the futures contract should offset some if not all of the higher price he paid for the actual gold. In a later chapter we will discuss the various groups of traders (speculators and hedgers) and the positions they are holding and I will show you how we can incorporate this vital information into our analysis.
Using a futures contract also allows us to buy or sell on margin, thus allowing a trader to typically deposit only 2-5% of the actual contract value. In stocks an investor can trade on margin, however the margins are typicaly 50% of the actual amount purchased. The following is an example of how the margin may be applied to a commodity trading account.
Example:
*Contract size of soybeans specified by the exchange is 5,000 bushels.
*Trader Mike buys soybeans @6.30/bushel.
*Value of trader Mikes soybeans are $31,500 (5000bushels * 6.30).
* The exchange initial margin as of April 9th, 1998 is $1,350.
In this example a trader must have a minumum deposit of $1,350 in his account to buy a contract of soybeans. This is called the intial margin (he must have this on deposit to intitally buy a contract of soybeans). The intial margin is set by the exchanges. Most brokerage firms offer exhange minimum margins, however, a brokerage firm has the right to charge higher margins. Beneath the initial margin is what is called the maintenance margin; as of April 9th, 1998 the maintenance margin is $1,000 , this is the minumum amount you must have on deposit in your acct to hold on to your position.
Example:
Trader Mike's blance is $1,350 an he buy's 1 contract of soybeans. Soybeans drop in price by .10/bushel, therefor your acct balance drops to $850 (.10 *5000 bushels = $500). Since trader Mike's account balance is below the maintenance margin of $1,000 he will be issued a margin call. In order for trader Mike to hold on to his position he must add funds to his account in the amount $500 or liquidate his position. If the market had dropped only .02 cents from his purchase price, he would not have a margin call. In reality, most brokerage houses require minimun acct deposits of at least $5,000.
Why Trade Commodities?
Commodities are driven by the law of supply and Demand; offering a means to diversify a portion of your current portfolio away from stocks and bonds keeping in mind that risk is always present. With demand for commodities ever present and world supply constantly changing, we are provided with a very unique oppportunity through the use of futures and options on commodities.
Is Trading Commodities Like Gambling?
A speculator, before placing a trade, should have an educated idea on which way he or she thinks prices are going based on trends and fundamental information and various other sources of information and analysis, as opposed to going to Las Vegas and simply rolling the dice and fighting the odds that are stacked against you. It is true that some traders do gamble in the futures and options market by letting there emotions interfere and establishing positions without any fundamental or technical backdrop for entering the market. Commodities are driven by the law of supply and demand where with gambling there is no such basis .
LONG and SHORT
Through the use of the futures market we may also speculate on a price decline. By "selling short" we are now selling a futures contract that we don't own and we can profit if prices go below our entry point or we can lose money if prices move above our entry point. Selling short a futures contract can be executed just as easily as going long.
Long the futures - we have bought the futures contract and expect a rise/increase in price.
Short the futures - we sold a futures contract not previously owned and we are expecting a decline/fall in price.
If the concept of selling something you don't own is confusing, the following example should help:
You have been watching the computer market and you are expecting prices to decline over the next 60-90 days because of an over production of XYZ computers. Your neighbor has a brand new XYZ computer; so you ask him if you can borrow it and you tell him you will kindly give it back to him within 60-90 days. In this example of course he will agree and loan you the XYZ computer. In turn you sell the computer to someone else for $200 (the current price of an XYZ computer.) Sure enough in 30 days the XYZ computer market has been flooded computers. The price of an XYZ computer drops to $100. Now you will buy one of the new computers for $100 and give it to your neighbor. You now have a $100 profit.
Contract Specifications
Futures Exch Contract Size Trading Hours Min tick value
Currencies:
Austr. $ CME $100,000 8:20-3:00 1pt=$10.00
British Pd CME 62,500 8:20-3:00 1pt=$12.50
Canadian$ CME $100,000 8:20-3:00 1pt=$12.50
Deutsche M. CME 125,000 8:20-3:00 1pt=$12.50
Swiss Franc CME 125,000 8:20-3:00 1pt=$12.50
Japanese Yen CME 12,500,000 8:20-3:00 1pt=$12.50
Energy:
Crude Oil NYM 1,000barrels 9:45-3:10 1pt=$10.00
Heating Oil NYM 42,000gal. 9:50-3:10 1pt=$4.20
Natural Gas NYM 10,000mbu 10:00-3:10 1pt=$10.00
Unleaded Gas NYM 42,000gal 9:40-3:10 1pt=$4.20
Food and Fiber:
Cocoa CSCE 10 metric tons 9:00-2:00 1pt=$10.00
Coffee CSCE 37,500lbs 9:15-1:32 1pt=$3.75
Cotton CTN 50,000lbs 10:30-2:40 1pt=$5.00
O.J CTN 15,000lbs 10:15-2:15 1pt=$1.50
Sugar CSCE 112,000 9:30-1:20 1pt=$11.20
GRAINS:
Corn CBT 5,000bushels 10:30-2:15 1tick=$12.50
Oats CBT 5,000bu 10:30-2:15 1tick=$12.50
Soybeans CBT 5,000bu 10:30-2:15 1tick=$12.50
Soybean Meal CBT 10 tons 10:30-2:15 1tick-$10.00
Soybean Oil CBT 60,000lbs 10:30-2:15 1pt=$6.00
Wheat CBT 5,000bu 10:30-2:15 1tick=$12.50
Metals:
Gold CMX 100oz 8:20-2:40 1pt=$10.00
Platinum CMX 50oz 8:20-2:30 1pt=$5.00
Silver CMX 5,000oz 8:20-2:25 1pt=$5.00
*This list is not all inclusive. All times are based on Eastern time.Any statement of fact herein contained are derived from sources believed reliable, but are not guaranteed as to accuracy, nor do they purport to be complete.
*There is a risk of loss in futures trading. Any capital used to trade futures or options should be risk capital only. Risk capital is capital that if lost, your lifestyle or family life will not be affected in any way.
Copyright 1998 Barnebee Trading Group, Inc
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This page last modified by Bob Lade on 11/10/98