Futures trading is a process that involves buying and selling of various financial assets with an agreement to buy or sell them at a specified future date and price. Futures trading is a vital component of the financial market that allows investors and traders to make potential profits. Over the years, futures trading has gained increasing popularity, mainly due to its potential advantageous trades. However, it is essential to note that futures trading can also be risky and requires sound knowledge and experience to perform it successfully. In this article, we delve into the basics of futures trading to help new traders learn the essential concepts and principles involved.
What are Futures?
Futures contracts are agreements to purchase or sell financial instruments or commodities at an agreed price and date. Traders combine commodities, bonds, and stocks with several other financial assets to create such contracts. Futures contracts are legally binding, which means that both parties are obliged to fulfill the contract at the agreed price and future date, regardless of the price movement. Futures contracts exist for numerous assets ranging from foreign currencies, metals, energies, agricultural products, and interest rates.
Futures Trading Process
Futures trading process involves buying or selling futures contracts in the stock market. These contracts consist of futures that have to be traded through futures exchanges such as the Chicago Mercantile Exchange (CME) Group or the Chicago Board of Trade (CBOT). Investors track the asset performance and place trades based on the predicted performance of the asset. Futures trading transactions are executed through a derivatives broker, who issues an order for the potential buy or sell contract to the exchange.
Types of Futures Orders
Traders and investors use different types of futures trading orders to buy or sell futures. Typically, there are three popular types of orders: market orders, limit orders, and stop orders.
Market Orders- If the investor wishes to buy or sell at the existing market price, they place the order with their broker to execute as soon as possible.
Limit Orders- Investors who wish to execute at a more optimal price than the current market price place such orders, which will only execute if the market reaches the desired price level.
Stop Orders- Traders use stop orders to buy or sell at a predetermined price. Investors place buy orders above the current price and sell orders below it.
Risk Management in Futures Trading
Futures trading involves risk management to minimize losses and maximize profits. It is advisable to learn and apply different risk management strategies to make the right trading decision.. Despite the profitability that futures trading attracts, market volatility and price fluctuations make it a risky process capable of incurring significant losses. Some popular risk management strategies include technical analysis, fundamental analysis, stop-loss orders, and hedging strategies.
Futures trading is a complex process that requires skill and experience to execute successfully. With the essential knowledge outlined above, hopefully, new traders can get a rich understanding of futures trading. Nonetheless, every investor or trader should conduct further research, apply different strategies that align with their circumstances, and utilize appropriate tools to minimize risks in their portfolio.