Futures for beginners: What is it and how to trade them?

Futures for beginners: What is it and how to trade them?

The futures market has been the fastest growing financial investment sector in the world over the past 20 years. To a large extent, this is ensured by a wide selection of different strategies and high liquidity. However, many private investors find the market too risky and complex. Let's find out if this is true.

A futures is a derivative financial instrument, a contract to buy/sell an underlying asset at a specific date in the future, but at the current market price.
Accordingly, the subject of such an agreement (the underlying asset) can be stocks, bonds, commodities, currency, interest rates, inflation rates, weather, etc. A simple example. The farmer planted wheat. The price of this product on the market today, conditionally, is 100 rubles per ton. At the same time, forecasts are coming from all sides that the summer will be good and the harvest in the fall will be excellent, which will invariably cause an increase in supply on the market and a fall in prices. The farmer does not want to sell grain in the fall at 50 rubles per ton, so he negotiates with a certain buyer that he is guaranteed to supply him with 100 tons of grain in 6 months, but at the current price of 100 rubles. That is, our farmer thus acts as a seller of the futures contract.

Fixing the price of a product that will be delivered after a certain period at the time of concluding a transaction is the meaning of a futures contract.

Derivatives emerged along with trading. But initially it was a kind of unorganized market, based on oral agreements between, for example, merchants. The first contracts for the supply of goods at a certain point in the future appeared with the letter. Thus, already on cuneiform tablets from centuries BC, which were found during excavations in Mesopotamia, one can find a certain prototype of the futures. By the beginning of the 18th century, the main types of derivative financial instruments appeared in Europe, and capital markets acquired the features of modern ones.

In Russia today you can trade futures on the Moscow Exchange derivatives market - FORTS, where one of the most popular instruments is RTS index futures. The volume of the futures market around the world today significantly exceeds the volume of actual trading in the underlying assets.

The BCS company is the market leader in terms of turnover on the FORTS derivatives market. Earn money with us!

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Technical details

Each futures contract has a specification - a document fixed by the exchange itself, which contains all the main terms of this contract: - name; — ticker; — type of contract (settlement/delivery); — size (number of units of the underlying asset per futures); — circulation period; - date of delivery; — minimum price change (step); — cost of the minimum step.

Thus, futures for the RTS index are now traded under the ticker RIZ5: RI - code of the underlying asset; Z — execution month code (in this case December); 5 — code of the year of contract execution (last digit).

Full information on the specification of short futures codes on the FORTS derivatives market can be found directly on the Moscow Exchange website .

Futures contracts are either “settled” or “delivered”. A delivery contract implies the delivery of an underlying asset: you agreed to buy gold in 6 months at a certain price - you get it, everything is simple here. The settlement futures contract does not imply any delivery. Upon expiration of the contract, profits/losses are recalculated between the parties to the contract in the form of accrual and write-off of funds.

Example: We bought 1 futures contract on the Russian RTS index, assuming that by the end of the contract's maturity the domestic index will rise. The circulation period has ended, or, as they often say, the expiration date has arrived, the index has grown, profit has been accrued to us, no one has delivered anything to anyone.

The maturity of a futures contract is the period during which we can resell or buy back this contract. When this period ends, all participants in transactions with the selected futures contract are obliged to fulfill their obligations.

The futures price is the price of the contract at the current moment. It changes during the life of the contract, right up to the expiration date. It is worth noting that the price of a futures contract differs from the price of the underlying asset, although it has a close direct dependence on it. Depending on whether the futures is cheaper or more expensive than the price of the underlying asset, situations called “contango” and “backwardation” arise. That is, today’s price reflects some circumstances that may occur, or the general mood of investors regarding the future of the underlying asset.

Benefits of Futures Trading

— The trader gets access to a huge number of instruments traded on different exchanges around the world. This provides opportunities for broader portfolio diversification.

— Futures have high liquidity, which makes it possible to apply various strategies.

— Reduced commission compared to the stock market.

— The main advantage of a futures contract is that you do not have to shell out as much money as you would have to when buying (selling) the underlying asset directly. The fact is that when performing a transaction, you use warranty coverage (GS). This is a refundable fee that the exchange charges when opening a futures contract, in other words, a kind of collateral that you leave when making a transaction, the amount of which depends on a number of factors. It is not difficult to calculate that the leverage available in futures transactions allows you to increase potential profits many times over, since the leverage is most often noticeably lower than the cost of the underlying asset. However, we should not forget about the risks.

It is important to remember that the GO is not a fixed value and can change even after you have already purchased the futures contract. Therefore, it is important to monitor the status of your position and the level of the GO, so that the broker does not close your position at a time when the exchange has slightly increased the GO, and there are no additional funds in the account at all. The BCS company provides its clients with the opportunity to take advantage of. Access to trading on the derivatives market is provided on QUIK or MetaTrader5 terminals.

Trading Strategies

One of the main advantages of futures is the availability of various trading strategies.

The first option is risk hedging. Historically, as we wrote above, it was this option that gave birth to this type of financial instrument. The first underlying asset was various agricultural products. Not wanting to risk their income, farmers sought to enter into contracts for the supply of products in the future, but at the prices currently agreed upon. Thus, futures contracts are used as a way to reduce risks by hedging both real activities (production) and investment operations, which is facilitated by fixing the price now for the asset we have chosen.

Example: we are now seeing significant fluctuations in the foreign exchange market. How to protect your assets during periods of such turbulence? For example, you know that in a month you will receive revenue in US dollars, and you do not want to take on the risk of changes in the exchange rate during this period of time. To solve this problem, you can use a futures contract for the dollar/ruble pair. Let's say you expect to receive $10 thousand and the current exchange rate suits you. In order to hedge yourself against unwanted changes in the exchange rate, you sell 10 contracts with the corresponding expiration date. Thus, the current market rate is fixed, and if it changes in the future, it will no longer be reflected in your account. The position is closed immediately after you receive real money.

Or another example: You have a portfolio of Russian blue chips. You plan to hold the shares long enough, more than three years, in order to be exempt from paying personal income tax. But at the same time, the market has already grown quite high and you understand that a downward correction is about to happen. You can sell futures for your shares or the entire MICEX index as a whole, thereby insuring yourself against a market decline. If the market declines, you can close your short positions in futures, thereby leveling out current losses on the securities in your portfolio.

Speculative operations . Two main factors contributing to the growing popularity of futures among speculators are liquidity and high leverage.

The speculator’s task, as is known, is to make a profit from the difference in purchase and sale prices. Moreover, the profit potential here is maximum, and the holding period for open positions is minimal. At the same time, in favor of the speculator there is also such a thing as a reduced commission compared to the stock market.

Arbitrage operations are another option for using futures, the meaning of which boils down to making a profit from “playing” on calendar/intercommodity/intermarket spreads. Read more about arbitration operations.

To learn more about futures trading, you can read books like Todd Lofton's Futures Trading Basics. In addition, you can attend various webinars for beginners .

BKS Express

Futures - how they work, players, exchanges, advantages, risks

Futures are more complex to understand than stocks on the stock exchange. The more you understand the basics of futures trading, the less costly mistakes you will make.

Futures. What is it, contract specification, basics

A futures is a standardized contract traded on a regulated exchange for the purchase/sale of a financial instrument or physical commodity at a certain price and on a specified date in the future.

Since the futures contract is standardized, it has clear parameters that are enshrined in the contract specifications on the futures exchange website. The main ones are given below.

Futures short code (symbol) – consists of the abbreviated name of the futures contract, the code of the month of contract execution and the year of contract execution.

Futures BRF2 will have the decoding Name, Month, Year:

BR – futures contract for Brent oil.

F – execution in January.

2 – execution in 2022.

As a rule, for futures on indices, stocks, and currencies, the most liquid are quarterly contracts, their month codes:

• H – March
• M – June
• U – September
• Z – December

In some markets, the most liquid futures contracts have monthly settlement, such as Brent oil futures. The codes for the remaining 8 months of the year will also apply to them:

Lot (trading unit) – how much of the underlying commodity is contained in one futures contract. For example, 10 barrels of oil, 1000 US dollars, 100 company shares, 100 troy ounces of gold.

Price step (tick) is the minimum price movement in points established by the exchange.

Price step cost is the minimum price movement in monetary terms established by the exchange.

Collateral (initial margin) is the amount of money established by the exchange that you need to have in your trading account in order to be able to open a position (long or short) in the amount of one futures contract. The guarantee is a small fraction (3-20%) of the contract value.

Exchange clearing is a settlement procedure for all futures accounts (conducted transactions and open positions) as a result of which funds are transferred between market participants depending on the profits and losses they received during this trading session.

Variation margin is the amount of money that will be debited or credited to your trading account as a result of exchange clearing, if you had transactions during this trading session or simply have an open position.

Settlement price of the day/last clearing – the price on the basis of which, during exchange clearing, profits and losses on open positions of market participants, as well as requirements for the amount of collateral for these positions, are calculated.

Maintenance margin is the minimum amount of funds for each futures contract that must be on the trader's trading account to maintain an open position. If the amount of funds falls below the level of the maintained margin, you must add funds to the trading account, otherwise the broker will forcefully close the position (a margin call will occur).

Price limit (bar) is the maximum price range established by the exchange within which the futures price can fluctuate during one trading session. Every day, the exchange sets the lower and upper price limits for the futures contract. If it is reached, trading is stopped and price limits are revised.

Last trading day (expiration) – the day on which trading in a futures contract for a specific contract month ceases.

The settlement date is the day on which the seller makes physical delivery of the underlying commodity under the contract and the buyer pays full cash for the commodity, or simply cash settlement occurs in the case of a non-deliverable future (for example, a stock index future).

The underlying commodity is the financial instrument or physical commodity on which the futures contract is based.

Spot price (spot price) is the price of a product when it is ready for delivery.

Contango is a market situation in which futures prices are higher in subsequent delivery months than in the next delivery month. Or when the futures price is higher than the spot price of the underlying commodity. With contango, as the contract gets closer to the expiration date, the futures price will lose value closer to the spot price.

Backwardation is a market situation in which futures prices are cheaper in subsequent delivery months than in the next delivery month. Or when the futures price is lower than the spot price of the underlying commodity. With backwardation, as the contract gets closer to the expiration date, the futures price will increase in value, approaching the spot price.

Contango and backwardation influence the results of mid- and long-term position holding. When trading intraday they do not matter.

Convergence is the movement of the price of a futures contract towards the spot price of the underlying commodity (the process of price convergence) as the contract expiration date approaches.

Deliverable and settlement futures

There are two types of futures traded on the exchange: delivery and settlement.

By opening a futures position, you fix the price at which the goods will be delivered or cash settlements will occur on the day the contract is executed.

If the contract specification states that the futures is settlement, then on the day the contract is executed the underlying asset will not be delivered, settlement will be made in cash - you will pay or receive the difference between the opening price of your position and the expiration price of the futures contract.

Futures that are settled on one exchange may be deliverable on another exchange in the world.

For example, on the Moscow Exchange, deliverable contracts are futures for “ten-year” OFZ (federal loan bonds) and futures for shares, which are traded on the Moscow Exchange. The rest of the futures (oil, natural gas, gold, silver, currencies, sugar, etc.) are settlement contracts. While on the CME Group Chicago Exchange, it is possible to receive delivery of goods on these futures if you do not close the position before the expiration of the contract and pay its full price.

Stock index futures are non-deliverable (settled) on all exchanges around the world.

Most market participants are not interested in the delivery of goods, especially speculators, so they close their futures position before expiration.

Let's imagine that you bought a futures contract for Sberbank shares and did not close the position on the futures expiration day. At what price will the shares be delivered?

The shares will be delivered at the price at which you purchased the futures. If you bought futures on Sberbank shares when its price was 32,000 rubles, then you will need to deposit this entire amount if you decide to receive delivery of 100 shares into your brokerage account. There are 100 shares of the company in 1 futures contract.

Types of futures / Which futures to trade

Futures are traded across 8 asset classes.

Stock index futures:

• S&P 500 (futures short code – ES, MES)
• Nasdaq-100 (NQ, MNQ)
• EURO STOXX 50 (FESX)
• Mini-DAX (FDXM)
• FTSE 100 (Z)
• Nikkei 225 mini (NK225M)
• Mini-Hang Seng (MHI)
• RTS (RI), etc.

Futures on company shares:

• Sberbank (SR)
• Gazprom (GZ)
• VTB (VB), etc.

Interest rate futures:

• 2-Year US Treasury Note (ZT)
• 5-Year US Treasury Note (ZF)
• 10-year US Treasury Note (ZN)
• US Treasuries (ZB)
• Euro Bund Eurozone (FGBL), etc.

Currency futures:

• euro (6E)
• Japanese yen (6J)
• Swiss franc (6S)
• pound sterling (6B)
• Australian dollar (6A)
• Canadian dollar (6C)
• Russian ruble (SI), etc.

Cryptocurrency futures:

• bitcoin
• Ethereum

Metal futures:

• gold (GC)
• silver (SI)
• copper (HG)
• platinum (PL)
• palladium (PA)
• aluminum (AL)

Futures for agricultural products:

• corn (ZC)
• wheat (ZW)
• soybean (ZS)
• sugar (SB), etc.

Energy futures:

• oil (CL, BR)
• natural gas (NG), etc.

Where to trade futures / Futures exchanges

The largest futures exchanges:

America . CME Group (Chicago Mercantile Exchange Group) and ICE (The Intercontinental Exchange).

Europe. EUREX (European Exchange) in Germany.

Asia. OSE (Osaka Exchange) in Japan and HKFE (Hong Kong Futures Exchange) in Hong Kong.

Russia. MOEX (Moscow Exchange).

Depending on what time of day you have free time for trading, find out which market to trade in the evening/night/morning/day.

Main participants (players) in the futures market

Futures are traded by two large groups of market participants: hedgers and speculators.

Hedgers are individuals who deal in the underlying commodity and want to protect against adverse price changes using futures contracts.

Hedgers include:

• companies producing physical goods that protect themselves from price risk in the form of falling prices for their products.
• companies are consumers of physical goods who are protected from price risk in the form of rising prices for the product they need to purchase to carry out their production, or changes in the exchange rate of the currency for which they buy foreign products.
• multinational companies operating in several countries, as well as banks protecting themselves from currency risk.
• investment funds and private traders protecting themselves from a stock market decline that would reduce the value of their stock portfolio, etc.

The purpose of hedging futures positions is protection against the risk of adverse price changes, not profit per se.

Speculators are individuals who take risks in order to profit from future changes in market prices.

Speculators on futures exchanges include:

• Commodity Trading Advisors (CTAs, in other words, hedge funds)
• electronic market makers (high frequency traders)
• asset managers of organizations
• banks
• large and small individual traders

Hedgers protect themselves from risk and transfer it to speculators who are willing to take it on with the expectation of being compensated for it.

Advantages of futures

The advantages of futures are that they are suitable for:

• for day trading with significantly lower commissions than day trading stocks on the stock exchange.
• for swing trading (holding positions for several days) in markets that are not traded on a stock exchange, or are traded in the form of ETF funds with a shortened trading session and price gaps at the opening of the day.
• for unhindered short trading, unlike shares on the stock market, for which opening and holding short positions is accompanied by additional difficulties.
• for access to a nearly 24-hour market, which makes it possible to react to price changes when the stock market is closed.
• to open a position by posting only the collateral, rather than the full value of the asset, which creates built-in financial leverage for which you do not have to pay interest.
• to hedge portfolio risks.
• to diversify the portfolio with instruments that are not represented on the stock market.
• for arbitrage operations with calendar spreads or on different exchanges.

Futures risks

• when market volatility rises, the exchange will increase the size of the collateral and if you do not have enough free funds in your account, the broker may close your position without warning.
• Stop trades when the upper/lower limit of the trading session price is reached create the risk of closing a losing position with large slippage at a much worse price after trading resumes.
• Futures are not suitable for passive investments because there is the influence of contango/backwardation on an open position and there are costs associated with rollover (closing a position on the current contract before its expiration and opening the same position on a new futures contract).
• trading without stop losses, which is often practiced by passive investors in the stock market, will lead to large-scale losses in futures.
• The timing of opening a position is especially important in futures; sitting in a correction after entering a trade is an expensive proposition.
• Futures have built-in financial leverage, since to open a position you only need to deposit collateral, and not the entire cost of the instrument, so if you don’t understand how to manage risks, it will all end pretty quickly.

Dmitry Boytsov