Futures Markets Tricky Trading for Personal Investing - dummies

Futures Markets Tricky Trading for Personal Investing

In the futures markets, individuals, institutions, and sometimes governments transact with each other for price hedging and speculating purposes. Although commercial users are the main players in the futures arena, the futures markets are also used by traders and investors who profit from price volatility through various trading techniques.

An airline company, for instance, may want to use futures to enter into an agreement with a fuel company to buy a fixed amount of jet fuel for a fixed price for a fixed period of time. This transaction in the futures markets allows the airline to hedge against the volatility associated with the price of jet fuel.

The futures markets are administered by the various commodity exchanges, such as the Chicago Mercantile Exchange (CME) or the New York Mercantile Exchange (NYMEX).

The most direct way of investing in the futures markets is by opening an account with a Futures Commission Merchant (FCM). The FCM is very much like your traditional stock brokerage house (such as Schwab, Fidelity, or Merrill Lynch), except that it’s allowed to offer products that trade on the futures markets. Here are some other ways to get involved in futures:

  • Commodity Trading Advisor (CTA): The CTA is an individual or company licensed to trade futures contracts on your behalf.

  • Commodity Pool Operator (CPO): The CPO is similar to a CTA except that the CPO can manage the funds of multiple clients under one account. This provides additional leverage when trading futures.

  • Commodity Indexes: A commodity index is a benchmark, similar to the Dow Jones Industrial Average or the S&P 500, which tracks a basket of the most liquid commodities. You can track the performance of a commodity index, which allows you in effect to “buy the market”. A number of commodity indexes are available, such as the Goldman Sachs Commodity Index or the Reuters/Jefferies CRB Index.

The futures markets are regulated by a number of organizations, such as the Securities and Exchange Commission (SEC) and the Commodity Futures Trading Commission (CFTC). These organizations monitor the markets to prevent market fraud and manipulation and to protect investors from such activity

Trading futures is not for everyone. By their very nature, futures markets, contracts, and products are extremely complex and require a great deal of mastery even by the most seasoned investors.

If you don’t feel you have a good handle on all the concepts involved in trading futures, then don’t simply jump into futures or you could lose a lot more than your principal (because of the use of leverage and other characteristics unique to the futures markets). If you’re not comfortable trading futures, don’t sweat it. You can invest in commodities in multiple other ways.