Commodity futures simplified
October 09, 2007 13:56 IST
Futures trading in commodity markets is a booming business these days in India. But not many people know the technical terms used in commodity futures trade. Check out below the technical jargons of commodity futures explained in simple language.
Arbitrage: The simultaneous purchase and sale of similar commodities in different exchanges or in different contracts of the same commodity in one exchange to take advantage of a price discrepancy.
Carry forward position: The situation in which a client does not square off his open positions on that day and carries it to the next day is known as the Carry Forward Position.
Cash commodity: The actual physical commodity as distinguished from the futures contract based on the physical commodity.
Cash settlement: A method of settling future contracts whereby the seller pays the buyer the cash value of the commodity traded according to a procedure specified in the contract.
Clearing: The procedure through which the clearing house or association becomes the buyer to each seller of a futures contract and the seller to each buyer, and assumes responsibility for protecting buyers and sellers from financial loss by assuring performance on each contract.
Clearing house: An agency or separate corporation of a futures exchange that is responsible for settling trading accounts, collecting and maintaining margin monies, regulating delivery, and reporting trade data.
Clearing member: A member of an exchange clearinghouse. All trades of a non-clearing member must be registered and eventually settled through a clearing member.
Convergence: The tendency for prices of physical commodities and futures to approach one another, usually during the delivery month.
Day trader: A speculator who will normally initiate and offset a position within a single trading session.
Default: The failure to perform on a futures contract as required by exchange rules, such as a failure to meet a margin call or to make or take delivery.
Delivery: The tender and receipt of an actual commodity or warehouse receipt or other negotiable instrument covering such commodity, in settlement of a futures contract.
Delivery period: The interval between the time when the warehouse receipt is given to the exchange by the seller and the time incurred by the buyer in getting this warehouse receipt is known as delivery period.
Derivative: A financial instrument, traded on or off the exchange, the price of which is directly dependent upon the value of one or more underlying securities, equity indices, debt instruments, or any agreed upon pricing index or arrangement.
Hedging: The practice of offsetting the price risk inherent in any
cash market position by taking the opposite position in the futures market. Hedgers use the market to protect their businesses from adverse price changes.
Long: One who has bought futures contracts or owns a cash commodity.
Mark-to-market: To debit or credit on a daily basis a margin account based on the close of that day's trading session.
Open interest: The sum of all long or short futures contracts in one delivery month or one market that have been entered into and not yet liquidated by an offsetting transaction or fulfilled by delivery.
Position: A commitment, either long or short, in the market.
Price discovery: The process of determining the price level of a commodity based on supply and demand factors.
Price limit: The maximum advance or decline from the previous day's settlement price permitted for a futures contract in one trading session.
Settlement price: The daily price at which the clearing house settles all accounts between clearing members for each contract month. Settlement prices are used to determine both margin calls and invoice prices for deliveries. The term also refers to a price established by the clearing organization to calculate account values and determine margins for those positions still held and not yet liquidated.
Short: One who has sold futures contracts or the cash commodity.
Speculator: One who tries to profit from buying and selling future contracts by anticipating future price movements.
Spot: Usually refers to a cash market price for a physical commodity that is available for immediate delivery.
Squaring: The practice by which the goods sold in the market are bought back before the term ends to meet the cycle or the practice that the bought goods are sold before the term ends to settle the deal is called squaring. Here price or commodity is not exchanged, but only profit or loss.
Tick: The smallest allowable increment of price movement for a contract. Also referred to as Minimum Price Fluctuation.
Trade account: To trade in the Futures market the client has to register himself and open an account with the broking organization known as trading account.
Trading lot: Each commodity should be sold and bought in the Futures market at a specific quantity. These quantities are called trading lots fixed by the exchanges. For rubber and pepper it is 1 ton, while it is 1 quintal for cardamom.
Volatility: A measurement of the change in price over a given time period.
Warehouse receipt: When the commodity sold in the Futures market is taken to the warehouse, the client receives a legal document from the warehouse known as warehouse receipt. This document has a trade value.
