Futures Marketing Section II Mechanics of Futures Trading

Futures Marketing

Section II Mechanics of Futures Trading

Price Discovery

Buyers and sellers interacting with information to arrive at a price through negotiation.

Futures Market Price

A source of what buyers and sellers think a commodities worth, at some point in the future, today.

Futures Contract

A transferable agreement to make or take delivery of a standardized amount of a commodity of minimum quality during a specific month.

Every contract identical except for price.

Terms of a contract

Commodity Price Quantity Quality Time of Delivery Place of Delivery Terms of Payment

Additional Terms Related to the Futures Contract Price Quotations and Price Fluctuations Maximum Daily Price Change (limit move) Volume of Trade End of Delivery Month Trading Suspension Bearish Bullish

Delivery Months Basis for Selection Natural Climatic Months Concentration of Volume of Trading Inertia

Settlement of a Futures Contract Delivery

Short - make delivery Long – take delivery

Offsetting Transaction Reversing position with offsetting contract, if you

were short in the market you would buy a contract.

Mechanics of Delivery

NOI – Notice of Intent to deliver short position First Notice Day – Sent by short position to

oldest long position Delivery Day- Retendering-

Functions of the Clearing House Reconciliation of all futures contracts Assuring the financial integrity of all

transactions

Characteristics of Clearing House Separate from exchange Membership is very limited, must be

members of the exchange Requirements for membership are stringent Stock Corporation Members must deposit substantial money

Notice of IntentScenario

A B C D Eshort LS LS LS L

Clearing House

Concept of Long and Short

Long ------------- Buy

Short -------------Sell

Open Interest

1 long + 1 short = 1 open contract

Open Interest Example

A sells to BA- Short B- Long

C sells to B

A- Short B-Long 2 contracts C- Short

Open Interest = 2 Volume = 4

Volume and Open Interest CBOTNovember Soybeans as of Friday

Volume and Open Interest CBOTJanuary Soybeans as of Friday

Selecting a Brokerage House

Broker with Experience Knowledge of Commodity Convenience Willingness to Service Account

Purpose of Margin

Secure Position of Trader Solvency of Clearing House

They take opposite sides of transaction

Margin Accounts

Separate for each customer Audited frequently – see if posted properly

and not being used Commission House cannot use money Amount can vary from one brokerage house

to another Does not pay interest

Initial Margin –amount you must post at origination of contract Sell Contract – post $3,000 margin for

soybeans. (5 to 15 % of contract) What happens if price goes up? Contract Losing Money Effective Margin has been eroded. When the EM reaches the call point you must

post new margin money to bring you account back to the original level of margin.

Example -- Margin Call

Sell November Soybeans at $7.00 must post margin of 10 % of contract value.

Post Margin of 10 % of ($7 * 5,000 bushels) Margin posted $3,500, call point is $2,000 If price increases to $7.40 what is the

effective margin? EM = $1,500, EM < Call Point must post new

margin monies.