Investment opportunities can be a worthwhile way of increasing capital but without being armed with considerable knowledge, it can be a risky endeavour. In particular, trading futures involve a high risk factor – more so than many other types of investment.
For those considering venturing into the trading futures market, here is a succinct beginner’s guide.
Essentially, futures trading involves speculating the price of commodities, with investors aiming to correctly predict rises and falls. Commodities include raw materials and products, including corn, pork and gold. This form of trading originated in Japan and focussed on rice grain but has diversified over time and now includes a huge variety of assets, such as oil and steel.
How Futures Work
Futures involves the trading of financial derivatives, i.e. a variable in which its value is determined by the performance of another component. As with any stock, the aim is to purchase at a low price and make a profit by selling at a higher price.
Future trading comes in the form of contracts. This contract states an agreement between two parties for the buying or selling of an agreed on-paper quantity and futures price of the chosen asset. The idea of a contract can be off-putting to new investors, but there is no obligation to carry the contract to term – while all contracts have an expiry date they can be traded at any time.
Futures trading are a form of leveraged investment. When committing, traders must pay a percentage or margin of the total price. Margin levels are subject to change and as such do fluctuate, although the typical value is between 5% and 15% of the total value.
Futures traders come in two forms: hedgers and speculators. A hedger is typically the farmer or manufacturer of the product, but could also include exporters and importers. The aim of a hedger is to protect themselves from possible price risks, so they trade futures of a paper product that will later be sold physically. A speculator on the other hand, aims to profit from a hedger, but this does involve a high level of risk. For example, a hedger may sell as they anticipate a price decline, while a speculator will buy in order to sell later at a higher value.
In order to buy and sell futures, you need to choose a brokerage firm. There is a large selection to choose from, including discount and service brokers, such as Sucden Financial. Discount brokers offer an independent approach and are an ideal choice for experienced investors, while service brokers offer more guidance.
Trading futures can be a very lucrative form of investment, but it is also a high risk venture. To increase your chance of success, always research the market, broker and commodity before investing.