New traders and future traders often ask the question, “what are futures contracts”?
The best way to answer this common question is to go back a bit in history.
During the foundations of monetary exchange, goods were often exchanged or “bartered” for payment. However, over time, consumers realized that certain products were only needed at certain times of the year.
Furthermore, if consumers were to purchase a year’s supply of such a good, they would likely do so long before it was needed or used. Moreover, if consumers chose to delay their purchase until it was needed, there was a good chance that the price of the product would increase based on supply and demand.
It was then that the foundation of Futures was born, which was a solution to an increase in demand that required more efficient agricultural storage, transport and distribution. Futures contracts allowed consumers to buy an asset now at an agreed price, but cash it out at a predetermined future date. Consumers set the current price to “protect” themselves from any future price fluctuations.
In addition to helping buyers fix a price, futures contracts have also benefited sellers by allowing them to limit their price risk by fixing a price for a future sale. Both sides of the currency exchange have benefited from futures contracts and it remains an essential part of today’s financial infrastructure.