How to trade futures contracts
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77% of retail CFD accounts lose money.
Trading futures contracts (also known simply as ‘futures’) is one of the most common methods used by people for speculating on price movements and hedging their investments. In this guide you’ll find the best trading platforms to use, along with a step-by-step guide to using these contracts as part of your investing strategy.
Compare the best futures brokers
To buy and sell futures contracts, you will first need to sign up with an online future broker. The table below compares the top futures trading platforms against each other, and you can simply follow the links below if you want to get started right away. If you want to know more before starting to trade, scroll down for more information.
77% of retail CFD accounts lose money.
Futures trading – a step-by-step guide
While futures contracts can be traded on a variety of platforms, the process is largely the same regardless of which you choose. Here are the steps you need to follow to give you the best chance of success.
- Sign up to a broker. Futures are traded using brokers, so the first thing you need to do is sign up to an online trading platform that allows the buying and selling of futures contracts.
- Choose the asset you want to speculate on. You can use futures contracts to trade a wide variety of different assets. They are commonly used in agricultural commodities markets such as wheat and corn, and are also one of the main methods people use to invest in oil.
- Decide whether you want to go long or short. Going long means betting on the price of an asset to rise, and going short means betting on it to fall. Consider which way you think the markets will move and invest accordingly.
- Select how much you wish to invest. Futures are standardised contracts – one contract will represent a specific amount of a commodity or asset (e.g. one futures contract on a Bitcoin exchange could represent 100 barrels of oil). Consider your budget and the amount you wish to invest to work out how many contracts to buy.
- Place your trade. Once you have decided what you want to invest in, which way you think the price will move, and how much money you want to invest – simply fill out all these details with your broker and open your position. This will incur a small charge known as the initial margin.
- (Optional – but recommended) sell your contract or close your position. Unless you want to take ownership of the underlying asset at the end of the contract, you will want to sell it through your broker before this date. This is the standard practice when futures trading, as not many investors want to take physical ownership of bushels of wheat or barrels of oil.
What is a futures contract?
A futures contract is an agreement to make a trade in the future – with both the date and the price specified in advance. These agreements are binding: the trade must be made regardless of how the price of the underlying asset (the thing that is being bought or sold) has moved in the meantime. In this way futures differ from options contracts, which also agree the terms of future trades, but don’t obligate either party to execute them.
Key factors to consider
Below are a few central things to think about before starting to trade futures. Bearing these in mind will help you avoid making silly mistakes – particularly if you’re a beginner trading these contracts for the first time.
The initial margin amount and other fees
One advantage of futures is that they don’t require you to pay the full amount up front – instead giving you the right to pay a set amount for an asset on a future date. Still, you will have to pay an upfront payment known as the ‘initial margin’ when opening your position. The size of this will depend on the value of the futures contract you’re taking out, and the fee structure of your broker.
Additionally, traders using margin accounts are usually obligated to maintain a specific amount of equity for any open contract. This means that if the market moves against you then you might be required to pay an additional maintenance margin to the broker to keep your contract valid.
Technical and fundamental analysis
A futures contract in a sense is a bet on the future value of a commodity or other asset – therefore it is important to do your research to determine which way you think the price will move in the future.
Technical analysis is the art of reading price charts in order to determine how trading activity causes markets to fluctuate, whereas fundamental analysis involves assessing the long term potential of an asset such as a company stock. For futures, fundamental analysis is the most important because it can help you predict long-term price movements, but it is also key to understand the impact of short term fluctuations.
Overall market trends
No single asset or commodity exists in a bubble, and overall market conditions can have a strong impact on their value. If the market is looking bullish, it means that investors are optimistic about future prospects and prices tend to rise. A bear market, on the other hand, tends to see prices fall across the board as investors lose confidence in the face of a downturn.
As futures involve making predictions about the future value of different assets, it’s very important to consider the broader conditions of the market that could impact prices – rather than solely focusing on the fundamentals of the asset on which you’re speculating.
Margin accounts vs CFD trading
There are two different sorts of broker accounts for trading futures: margin accounts and CFD trading accounts. CFDs are the most common way in which retail investors buy and sell futures because of the added flexibility they provide. When trading CFDs you’re not actually taking ownership of the futures contract itself, instead you’re just trading against its value, meaning you can buy or sell quickly and profit from market fluctuations.
If you have a margin account it means you can actually buy and sell futures directly, but doing this tends to come with increased fees. It is when trading futures in this way that you will be subject to the full cost of the initial margin and possibly maintenance margin payments (as described above) if the market goes in the opposite direction from what you expect.
Why use futures contracts?
Futures are used for two reasons: to speculate and to hedge. As they are agreements to make a trade in the future at a pre-agreed price, these contracts can be used by speculators to try and beat the market. Let’s say oil is currently trading at $70, and you believe that in a couple of months it will have risen to $80. You can take out a futures contract that allows you to buy 100 barrels of oil at $75 in two months time, giving you access to a better rate.
Hedging is the act of mitigating risk, and futures contracts are used extensively for this purpose in the commodities industry. A farmer cannot predict with 100% certainty how the wheat harvest will turn out this year, so can sell futures contracts agreeing a price for their crop ahead of time. This means that they might end up getting less than the market rate sometimes, but allows them a guaranteed revenue regardless of natural conditions.
If you’re still deciding whether or not to trade futures, then consider these pros and cons to help make up your mind.
- Can be used to speculate on a variety of assets
- Allow traders to hedge their investments to mitigate risk
- You don’t have to pay the cost of the asset up front
- Have in-built leverage as each contract represents a set amount of an asset
Where can I learn more?
If you want to learn more, then the best places to head are to our futures definition page and to our investing hub so you can find out more information about other trading techniques. Additionally, you can check out our free courses to improve your knowledge and help you make better decisions with your money.
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