What is a Futures Contract?

The two types of commodity contracts are those that provide for physical delivery of a particular commodity or item and those which call for a cash settlement.

Even in the case of delivery commodity contracts, very few actually result in delivery. Reason being many speculators have no desire to take or make delivery. Rather, the majority of speculators in futures markets choose to realize their gains or losses by offsetting futures contracts prior to the delivery date. Selling a commodity contract that was previously purchased liquidates a position. Similarly, a buying back a commodity contract that was initially sold offsets the initial purchase. Gain or loss is achieved by the difference between the buying price and the selling price.

A hedger achieves protection against changing cash prices by purchasing, short futures contracts of the same or similar commodity and later offsetting that position by selling long futures contracts of the same quantity and type as the initial transaction.

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