Forex Investment and Currency Trading

Financial futures are standardized forward contracts which are traded on futures and options exchanges. A futures contract is an unconditional sale agreement which is binding on both counterparties, the seller as well as the buyer. Various financial instruments may be used as the underlying asset. There are, for example, financial futures contracts on interest rates (interest-rate futures), on equity indices (equity index futures) and on foreign currencies (currency futures). Futures have a symmetrical risk profile.

You, as an investor, can assume the position of either buyer or seller. The basic idea, however, is not to actually acquire or deliver the underlying asset but rather, depending on strategy and market performance, to take advantage of price changes with the aim of increasing income or reducing risks.

Purchase of a futures contract (future long position)

By purchasing a futures contract, you as the buyer obligate yourself to take delivery of a certain quantity of a certain underlying asset at a pre-agreed price on a certain date in the future (alternately referred to as the delivery date, settlement date, or maturity date). A future long position is established by purchasing a futures contract. You, as the buyer, anticipate that the price of the underlying asset or instrument will rise during the term of the contract.

Sale of a futures contract (future short position)

If you sell a futures contract, you obligate yourself to deliver a certain quantity of an underlying asset at a pre-agreed price on a certain date in the future (the delivery, settlement, or maturity date). A future short position is established by selling a futures contract. You, as the seller, anticipate that the price of the underlying asset or instrument will fall during the term of the contract.

Closing out of a futures position

Futures transactions are usually not entered into with the aim of contract fulfillment. That is to say, their purpose is generally not to actually make or receive physical delivery of the underlying asset on the future date as per the terms specified in the contract. Rather, far more often, the market participants intend to reverse their obligations prior to maturity of the contract by concluding an offsetting counter-trade with some other market participant. The fact that the contract is actively traded on a central futures and options exchanges ensures that the position may be closed out on any exchange trading day until the end of the contract. After the closing out of his position, also called “unwinding” or “liquidation”, the market participant no longer has any obligations under the contract.

• You, as the buyer of a futures contract, close out a long position by entering into the opposite short position in that you sell a futures contract with the exact same contract specifications.
• You, as the seller of a futures contract, close out a short position by buying a futures contract with the exact same contract specifications.
• The closing out of a futures position should be marked as a “closing” transaction when an order is placed.As an investor, you should, however, recognize that your bank may only permit you to close out your position until a certain specified point in time.

Profits and losses from futures transactions

The closing out of positions generally results in a net profit or net loss due to the fact that the market price of the futures contract changes over the course of its term. The difference between the purchase and sale price of the futures contract determines the profit or loss on the position. Other costs (such as transaction costs) must also be considered.

Future long position

The amount of profit resulting from a future long position depends on how far the price quoted for the futures contract has risen above the originally agreed price (purchase price) on the maturity date or the date the position is closed out.

You should consider, however, that the theoretically unlimited profit potential that a future long position offers is to offset by a high risk of loss. The farther the price of the futures falls below the originally agreed price, the greater the loss. In extreme cases, the futures contract can become worthless, while you as the buyer must nevertheless pay the full agreed price.

Future short position

The amount of profit resulting from a future short position depends on how far the price quoted for the futures contract has fallen below the purchase price on the maturity date or the date the position is closed out.

In the case of a short futures position, the high profit potential is likewise offset by an unlimited risk of loss. The amount of the loss on a short position depends on how far the price quoted for the futures contract has risen above the purchase price on the maturity date or the date the position is closed out. The higher the price rises above the purchase price, the greater is the loss.

Settlement of futures contracts

In the relatively rare cases where a futures position is not closed out by means of an offsetting counter-trade prior to maturity, the transaction is settled either by physical delivery of the underlying asset by the seller against payment by the buyer, or by settling the net difference between the official settlement price on the final day of trading and the purchase price as a single cash payment (cash settlement).

Futures on indices generally provide for cash settlement in the contract specifications. If a futures contract is based on a synthetic underlying instrument, meaning an artificially created and idealized instrument which does not actually exist, then the seller will be informed what underlying assets may be delivered instead of the synthetic instrument.