Part 26: Futures

In financial markets you will often hear the term “futures.” Futures are a type of derivative instrument widely used both by investors and companies. In this article, we will look at what a futures contract is, what purposes it serves, and how it works.

What is a futures contract?

A futures contract is an agreement between two parties to buy or sell an asset at a predetermined price at a specified time in the future. The underlying asset can be a commodity (such as oil, gold, or wheat), a currency, a market index, or another financial instrument.

Futures are standardized contracts and can be bought and sold on exchanges. This means that their terms (such as quantity, maturity date, and method of delivery) are standardized for all participants.

Futures are complex and risky instruments. They are typically suitable for experienced investors. However, understanding them is important for gaining a full picture of investments and financial markets.

Why are futures used?

Futures are mainly used for two purposes:

• Risk management (hedging)

Futures are often used as protection against price fluctuations.

Example: An oil-importing company is concerned that in three months the price of oil may rise. It buys an oil futures contract that allows it to purchase oil at a fixed price in the future. In this way, the company protects itself against a potential price increase.

• Profit from price movements

Investors also use futures to try to profit from changes in prices.

Example: An investor believes that the price of gold will rise. He buys a gold futures contract. If the price does go up, he can buy the gold at the lower contract price and sell it at the higher market price, making a profit. If the price does not rise, he may incur a loss.

It should also be noted that futures can be sold on the exchange before they reach maturity. This means an investor can sell their futures contract to another investor. If the price of the contract has increased on the market, the investor can make a profit from that sale as well.

Key features of futures

• Standardized and exchange-traded | This ensures transparency and makes trading contracts easier.
• Margin | When buying a futures contract, the investor does not pay the full value of the underlying asset. Instead, they place a deposit with the broker as collateral, usually around 5–10% of the contract’s value. This is called margin. It serves as a guarantee that the investor will honor their obligations under the contract.
• Leverage | Because of margin, the investor can control a much larger contract value than the amount of money they actually invest.
  Example: If the value of one gold futures contract is $10,000, and the margin is only $1,000, the investor controls a $10,000 contract with just a $1,000 investment. This magnifies both potential profits and potential losses, since even small price movements can lead to significant impact.

Apricot Capital is regulated by the Central Bank of Armenia.

The examples in this text are for illustrative purposes only. This does not constitute investment advice or a recommendation to buy or sell any specific investment instrument. The past performance mentioned in this text is not indicative of future results.