Futures Trading - Unlike a stock, which represents equity in a corporation. With Futures Trading a position can not be held indefinitely, futures contracts have finite lives. Futures trading contracts are primarily used for hedging commodity price fluctuation risks or for taking advantage of price movements, rather than for the buying or selling of the actual commodity. The word "contract" is used because a futures trading contract requires delivery of the commodity within a stated period of time in the future unless the contract is liquidated or sold before it expires.
The Futures Trader purchaser of the futures contract (long position) agrees on a fixed purchase price to buy the underlying commodity from the Futures Trader seller at the expiration of the contract. The seller of the futures contract (short position) agrees to sell the underlying commodity to the buyer at expiration at the fixed price. As time passes, the contract's price changes relative to the fixed price (time premium) at which the trade was initiated. This creates profits or losses for the futures trader.
In most cases, delivery does not take place. Instead, both the future trader buyer and the seller, acting independently of each other, usually liquidate their long and short positions before the contract expires. The buyer sells the futures contract and the seller buys futures.
Futures Traders in the futures markets are constantly watching the relationship between cash and futures in order to exploit such price differences. If, an futures trader realized that gold futures in a certain month were overpriced in relation to the cash gold market and/or interest rates, he would immediately sell those contracts knowing that he could lock in a low risk profit. Traders on the floor of the exchange would notice the heavy selling activity and react by quickly pushing down the futures price, thus bringing it back into line with the cash market. Most arbitrage strategies are carried out by traders from large dealer firms. They monitor prices in the cash and futures markets where they have electronic
screens and direct phone lines to place orders on the exchange floor.