Thursday, 1 November 2007

What are futures?

I guess many of us might have come across this term, "Futures". You may have heard of "Forwards" before as well. Simply put it, futures are simply forwards but they are regulated and are backed by clearing house.

A futures contract is a legally binding agreement between a buyer and seller to receive (in the case of a "long" position) or deliver (in the case of a "short" position) a commodity or financial instrument sometime in the future, but at a price that's agreed upon today. These contracts mature at a particular point in the future and are identified by reference to that date - for instance, a Nov 2007 Wheat futures contract or a December 2005 S&P 500 stock index futures contract. The ability to make or take delivery of the underlying commodity at expiration creates a strong tendency for cash and futures prices to move in the same direction by roughly equal amounts. It will take two options to replicate a future contract.

For those who wish to know more, Wikipedia provides very good information about futures and its difference between forwards. Click here for more information.

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