What comes to mind when you think of investing in the stock market? Like most people, your first thought is stocks, bonds, mutual funds, or derivatives. But there’s another type of security investors can use to make money from movements in commodity prices: futures.
Futures and futures options allow investors to take advantage of a trend in a particular commodity or currency without actually having to buy that asset.
Futures contracts differ from stock options because they don’t give the buyer a right to sell their share at a specific price; instead, they must complete the transaction if accepted by the seller.
In this way, futures contracts are more closely related to stock purchase agreements than stock options. When it comes to the difference between futures and derivatives, there are three primary distinctions:
The main difference is that while stock options give owners the right to buy or sell shares at a fixed price in the future, futures contracts require traders to fulfill their obligation by either buying or selling an asset at a predetermined price. Knowing this difference will help you understand how commodities fluctuate in value without affecting their supply or demand.
You can trade both futures on exchanges and derivatives on specialized trading platforms; however, there are vast differences between forex trading and futures contract trading. For example, on an exchange like the Chicago Mercantile Exchange (CME), you will find that most of the traders are hedgers, i.e., people who own or produce an asset and want to offset their risk by locking in a future price.
The main difference between futures and conventional securities such as stocks and bonds is that the former doesn’t give you ownership of the underlying security. When you buy a futures contract, you are obligated to complete it by taking delivery of the underlying asset or making payment in cash equivalent. For this reason, some traders believe that trading in futures markets can be riskier than trading in stock markets.
The simplest way to explain the difference between forex and futures trading is this:
Futures have a fixed price, whereas the forex price fluctuates throughout the day. In addition, fortunes can be traded as contracts on a regulated commodity or as derivative securities on an index such as S&P 500.
In contrast, foreign exchange traders have no centralized exchange – only dealers who bid and ask prices – so it’s easy to take advantage of retail traders by pushing rates up or down.
While stock exchanges are heavily regulated in Hong Kong, no such regulation exists for currency. As a result, some believe that retail investors are at risk of being taken advantage of by money changers with insufficient knowledge about forex trading.
However, others believe this is unfair since market forces set the margin on currency exchanges. There are plenty of opportunities for people who know what they’re doing to make money – futures traders included.
Futures allow traders to protect themselves against fluctuations in rates by limiting how much they want to pay or receive on their trades. Your losses will always stay within an acceptable range, even if the rate takes off without notice.
On the other hand, forex trading leaves you exposed to any changes in the rates, and it’s easy to find yourself on the losing end of a significant amount.
Educate yourself first! If you can’t be bothered doing your research, leave the trading to the pros and choose ETFs (exchange-traded funds) instead – they all track international indexes such as Standard & Poor 500.
When investing in futures or forex, always watch market activity closely, try not to chase after significant returns, don’t trade too much, and don’t hold on to bad trades. Beginner traders interested in trading futures are advised to use an experienced and reputable online broker from Saxo Bank.