As early as the 19th century, agricultural farmers began selling contracts for later-day delivery of their products in order to alleviate supply and demand during rainy season, and in anticipation of market requirements. The fundamental elements of a future market today can be traced back to those same agricultural market roots, though a future market covers a much wider variety than just agricultural products.
Their global market encompasses several varying commodities including, but not limited to, manufactured supplies, agricultural produce, and monetary instruments, such as foreign currency or treasury bonds. And like their 19th century comrades, the future market supplies a contract stating the exact amount that will be paid for any given product on the specified date of delivery.
More commonly noticed by speculators, however, is how actual futures market contract itself is used for trading, since its value changes almost only a daily basis—in accordance with the commodity’s market value.
Future contracts consist of one buyer and one seller—the former of which assumes the long position, with the latter assuming the shorter position. Since future accounts are settled every day, each contract clearly and precisely states the purchasing price, quantity, and date of delivery. A futures contract can be explained through the use of this particular model: Consider a farmer and a baker creating a business deal in which the farmer agrees to deliver 1000 bushels of his wheat to the baker, at the price of 5 dollars a bushel. Now, in the instance that the price of wheat futures fall short a dollar, the farmer’s account becomes credited with, and the baker’s account becomes debited with the same amount: $1000. Since the total loss on the daily price of wheat was $1, the following equation can be used: $5.00-$4.00 x 1000 bushels.
Coinciding with the finished contract period is the settlement of the contract. Therefore, if the $4.00 remains as the final wheat futures price, the farmer will have profited $1000 from the futures contract, while the baker will have suffered the same amount in losses. Although at the same time, the baker can now purchase wheat from the open market for $4.00 a bushel—which as you recall, is a $1000 decrease from the original contract. The baker can reimburse himself for the amount lost from the futures contract through the decrease in wheat prices.
Likewise, the profit the farmer garnered from his futures contract makes up for his less-than-anticipated selling price of wheat on the open market. Though remember that the baker is essentially purchasing his wheat for $5.00 a bushel—a whole dollar more than he would’ve been spending had he not become involved with the futures contract. A win-lose situation, the baker was successful in his protection against the increasing prices, but will suffer a loss in the case of a market price drop.
Consider the pros and cons of the baker-farmer example when examining speculators and their actions. Purchasing long from a buyer when expecting the prices to rise or purchasing short from a seller when expecting a decrease in prices presents an interesting dynamic of anticipation. Although they’re hopeful that by purchasing long (or short) from the buyer they will ultimately profit from daily spikes which are so common within the futures market, they also risk going with the wrong expectation.
When considering the advantages of a foreign exchange market (FOREX) over a future market, one can almost immediately see which is the smartest route to take. FOREX has several attributing factors which the futures market does not—it is more flexible, safely reliable, and instantaneously gratifying.
FOREX has one of the largest financial markets nationwide, and globally outranks futures market in its daily trade markets and exchanges—producing lesser occurrence of slippage within the FOREX market, and a greater number of stop orders that can be executed effortlessly.
Because its span is so extensive, FOREX offers the luxury of 24 hour service, Monday through Friday. In comparison to futures exchanges which are only available 7 hours a day, FOREX allows flexibility for its traders, giving them the opportunity to take full advantage of all trading prospects as soon as they occur, as opposed to when the market finally opens.
Additionally, because transactions by FOREX are free from all commission, traders can avoid paying a brokerage or commission fee each time they enter into a transaction—something that is mandatory with futures. At FOREX, brokers are employed to set a spread—traders pay them to set the difference between the buying and selling price of currency.
Unlike futures market, whose brokers tend to quote prices based on the previous trade, FOREX focuses only on the present and the specific price of your transaction. Since FOREX is in such high demand and operates under full-time hours during the business week, their transactions are nearly always executed instantaneously. This helps to decrease the amount of slippage that may occur as well as boost price confidence.
Ultimately, FOREX is not only the less risky than futures market, but also more reliable, and trader-friendly. The extra precautions set up within its very own trading systems assures traders that they are fully protected from debits caused by market gaps or increased slippage—something that is commonly seen at futures.