The term “future” refers to a transaction to exchange gold at a predetermined price and quantity, but with a future settlement date. As a result, neither you nor the seller are required to make a full payment at this time (at minimum not in full). That’s all there is to it.
In other words, the day of settlement is when the gold is actually exchanged between the buyer and seller. Up to three months in advance, on average.
Most futures traders take advantage of the delay in order to bet on both sides of the market. Before the settlement date, they plan to sell or buy back any purchases they’ve made or sales they’ve made. After that, they’ll just have to deal with the money they made and lost. As a result, they are able to trade considerably larger quantities and incur greater risks in exchange for greater gains than they could because they’d have to complete their deals as soon as delivered.
Margin & Gold Futures
In order to buy (or sell) a gold future, you’ll need margin, and this is among the most critical components of the transaction to consider.
For this reason, a margin of safety must be put in place to ensure both parties are comfortable if the price of gold drops and if it rises, respectively.
An independent body clearer serves as a buffer between you and the other party in the event of a dispute. The margin required to trade gold futures can range from 2 percent to as much as 20 percent of its total of the contract you sold, depending on market conditions.
Using Gold As A Funding Source
It’s now clear how futures might be used as a form of leverage, or “gearing.”
What if you had $1 million to invest, for example? The maximum amount of gold bullion you can buy and settle for is $5,000. However, you may be able to purchase $100,000 worth of gold futures! The reason for this is that your margin on the a $100,000 future is likely to be around 5%, or $5,000.
While you would profit $500 from physical gold if the price rose by 10%, you would make $10,000 in the same scenario by investing in gold futures.
It’s a good idea, but don’t overlook the downside. Even if gold’s price drops by 10%, you’ll only lose $500 if you buy bullion, and your asset will still be there to make you money if gold’s price rises steadily again.
In contrast, a 10% drop in stock prices will price you $10,000 in future, which really is $5,000 more often than you paid in the beginning. As a result of the agony of a $10,000 loss, you will be forced to close the position and your money will be gone, even though you had deposited an additional $5,000 as a margins top-up.
Unless you raise your margin, your broker will close out your position, resulting in the loss of your original $5,000 on a slight intra-day fluctuation in gold prices.
It’s easy to see why speculating on the future might be risky for those who are overconfident in their own assumptions. The vast majority of people that trade futures end up losing their whole investment. The fact is that this is the case. Even if they are correct in the medium run, futures can fatal to your income because of an unpredicted and short-term price wobble that is not expected.
“On-Exchange” Gold Futures Contracts
On an ad-hoc basis, large professional futures traders create their own contract conditions and actually trade with one other. This type of trade is known as “Over The Counter.”
It is fortunate that you will almost definitely trade a standardised futures contract on an economic future exchange, avoiding the pain and mathematics of specific negotiations.
The exchange itself determines the closing date, the contract sum, the delivery conditions, and other aspects of a normal contract. By purchasing multiple of these typical contracts, you can increase your entire investment by a significant amount.
There are two major benefits to trading great competitive on an economic future exchange:-
Due to the increased liquidity, it will be possible to sell the future at any time to anyone else, unlike with an OTC future. With an OTC future, this is not always the case.
There will also be a central clearinghouse that will protect the deal against default. Among other things, the central clear is responsible for calculating margins and collecting or holding the profit for both buyers and sellers.