Futures Trading Explained
Many people have traded futures without knowing it. If you have ever purchased a house, condo or car
on credit, then it is a fact that you have traded futures before. For that reason, it is best if I describe
what you did when you traded futures using the vocabulary of futures traders.
Example: You entered the futures market when you sold one home and bought another one. The date
that you agreed to sell was not the same date as when you closed and got the money. Between those
two dates, one needs to use the language of futures traders to understand what happened.
Let us say that you own your home with no mortgage. You are “net long” one physical home whose
market value might be one million dollars. Now let us say that you sell it to Ralph Jones tomorrow for
one million dollars. Obviously you don’t have a million dollars on the 4th of August, the day that he
agrees to purchase it. A trader like myself would use specific terms to describe what is happening to
your physical home and its ownership over the next few months. You could contract to sell your home
for one million dollars, the closing date being September 30, 2003. By signing this contract, you are
“going short” one “home contract” and will receive one million dollars in return for the contract on
September 30, 2003. If the value of your home goes to $1.1 million by September 30, you are still
obligated to sell it at $1 million and the buyer is likely to have a smile on his face on September 30. We
traders would describe this by telling you that the buyer made $100,000 by “going long” or simply
“purchasing” one futures contract for your home. If the price goes down and it is only worth $900K by
September 30, it is you that will have a smile on your face at the closing. Your smile will be due to the
fact that you “sold short” a “contract to sell your home in the future (Sept 30, 2003 being the future
relative to today)” and you sold short when the value was higher than it was at the expiration of the
contract . Note that after signing the contract to sell your home, you instinctually “know” that you are
“net short one home futures contract” because if you hear that the fellow down the block has listed his at
more than you sold yours for you all of a sudden get interested in what his home is like compared to
yours and you want to know if you sold yours for too little, etc. Note that after September 30, you will be
neither short or long a home. On September 25th, you will be long one physical home and short one
contract in that same home.
Now let us say that you believe that your home value is at its highest value right now and is likely to
come down over the next five years due to interest rates rising and the effects that interest rates will
have on the market. You could look for someone to buy your home and rent a home for the next five
years in order to avoid taking the loss on your home. Since that is too much hassle, you might want to
call your futures broker and ask him how to hedge your home's value using futures contracts. The
futures contracts might not be directly on the value of homes in the North Shore, but could be related
directly to interest rates, etc. If you think that values are going to go up, you could establish a “long
position” in the futures contract and if you think that they are going down further, you could “go short” or
“take a short position” in the futures market.
Donbot
Many people have traded futures without knowing it. If you have ever purchased a house, condo or car
on credit, then it is a fact that you have traded futures before. For that reason, it is best if I describe
what you did when you traded futures using the vocabulary of futures traders.
Example: You entered the futures market when you sold one home and bought another one. The date
that you agreed to sell was not the same date as when you closed and got the money. Between those
two dates, one needs to use the language of futures traders to understand what happened.
Let us say that you own your home with no mortgage. You are “net long” one physical home whose
market value might be one million dollars. Now let us say that you sell it to Ralph Jones tomorrow for
one million dollars. Obviously you don’t have a million dollars on the 4th of August, the day that he
agrees to purchase it. A trader like myself would use specific terms to describe what is happening to
your physical home and its ownership over the next few months. You could contract to sell your home
for one million dollars, the closing date being September 30, 2003. By signing this contract, you are
“going short” one “home contract” and will receive one million dollars in return for the contract on
September 30, 2003. If the value of your home goes to $1.1 million by September 30, you are still
obligated to sell it at $1 million and the buyer is likely to have a smile on his face on September 30. We
traders would describe this by telling you that the buyer made $100,000 by “going long” or simply
“purchasing” one futures contract for your home. If the price goes down and it is only worth $900K by
September 30, it is you that will have a smile on your face at the closing. Your smile will be due to the
fact that you “sold short” a “contract to sell your home in the future (Sept 30, 2003 being the future
relative to today)” and you sold short when the value was higher than it was at the expiration of the
contract . Note that after signing the contract to sell your home, you instinctually “know” that you are
“net short one home futures contract” because if you hear that the fellow down the block has listed his at
more than you sold yours for you all of a sudden get interested in what his home is like compared to
yours and you want to know if you sold yours for too little, etc. Note that after September 30, you will be
neither short or long a home. On September 25th, you will be long one physical home and short one
contract in that same home.
Now let us say that you believe that your home value is at its highest value right now and is likely to
come down over the next five years due to interest rates rising and the effects that interest rates will
have on the market. You could look for someone to buy your home and rent a home for the next five
years in order to avoid taking the loss on your home. Since that is too much hassle, you might want to
call your futures broker and ask him how to hedge your home's value using futures contracts. The
futures contracts might not be directly on the value of homes in the North Shore, but could be related
directly to interest rates, etc. If you think that values are going to go up, you could establish a “long
position” in the futures contract and if you think that they are going down further, you could “go short” or
“take a short position” in the futures market.
Donbot
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