Selling (Going Short) Copper Futures to Profit from a Fall in Copper Prices

Selling (Going Short) Copper Futures to Profit from a Fall in Copper Prices

If you are bearish on copper, you can profit from a fall in copper price by taking up a short position in the copper futures market. You can do so by selling (shorting) one or more copper futures contracts at a futures exchange.

Example: Short Copper Futures Trade

You decide to go short one near-month LME Copper ‘A’ Grade Futures contract at the price of USD 3,171/ton. Since each Copper ‘A’ Grade futures contract represents 25 tonnes of copper, the value of the contract is USD 79,275. To enter the short futures position, you have to put up an initial margin of USD 15,000.

A week later, the price of copper falls and correspondingly, the price of LME Copper ‘A’ Grade futures drops to USD 2,854 per tonne. Each contract is now worth only USD 71,348. So by closing out your futures position now, you can exit your short position in Copper ‘A’ Grade Futures with a profit of USD 7,928.

Margin Requirements & Leverage

In the examples shown above, although copper prices have moved by only 10%, the ROI generated is 0%. This leverage is made possible by the relatively low margin (approximately 19%) required to control a large amount of copper represented by each contract.

Leverage is a double edged weapon. The above examples only depict positive scenarios whereby the market is favorable towards you. If the market turn against you, you will be required to top up your account to meet the margin requirements in order for your futures position to remain open.

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Writing Puts to Purchase Stocks

If you are very bullish on a particular stock for the long term and is looking to purchase the stock but feels that it is slightly overvalued at the moment, then you may want to consider writing put options on the stock as a means to acquire it at a discount. [Read on. ]

What are Binary Options and How to Trade Them?

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Investing in Growth Stocks using LEAPS® options

If you are investing the Peter Lynch style, trying to predict the next multi-bagger, then you would want to find out more about LEAPS® and why I consider them to be a great option for investing in the next Microsoft®. [Read on. ]

Effect of Dividends on Option Pricing

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Bull Call Spread: An Alternative to the Covered Call

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Dividend Capture using Covered Calls

Some stocks pay generous dividends every quarter. You qualify for the dividend if you are holding on the shares before the ex-dividend date. [Read on. ]

Leverage using Calls, Not Margin Calls

To achieve higher returns in the stock market, besides doing more homework on the companies you wish to buy, it is often necessary to take on higher risk. A most common way to do that is to buy stocks on margin. [Read on. ]

Day Trading using Options

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What is the Put Call Ratio and How to Use It

Learn about the put call ratio, the way it is derived and how it can be used as a contrarian indicator. [Read on. ]

Understanding Put-Call Parity

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Valuing Common Stock using Discounted Cash Flow Analysis

Since the value of stock options depends on the price of the underlying stock, it is useful to calculate the fair value of the stock by using a technique known as discounted cash flow. [Read on. ]

Selling (Going Short) Silver Futures to Profit from a Fall in Silver Prices

If you are bearish on silver, you can profit from a fall in silver price by taking up a short position in the silver futures market. You can do so by selling (shorting) one or more silver futures contracts at a futures exchange.

Example: Short Silver Futures Trade

You decide to go short one near-month TOCOM Silver Futures contract at the price of JPY 30.23/gm. Since each Silver futures contract represents 30000 grams of silver, the value of the contract is JPY 906,900. To enter the short futures position, you have to put up an initial margin of JPY 108,000.

A week later, the price of silver falls and correspondingly, the price of TOCOM Silver futures drops to JPY 27.21 per gram. Each contract is now worth only JPY 816,210. So by closing out your futures position now, you can exit your short position in Silver Futures with a profit of JPY 90,690.

Margin Requirements & Leverage

In the examples shown above, although silver prices have moved by only 10%, the ROI generated is 0%. This leverage is made possible by the relatively low margin (approximately 12%) required to control a large amount of silver represented by each contract.

Leverage is a double edged weapon. The above examples only depict positive scenarios whereby the market is favorable towards you. If the market turn against you, you will be required to top up your account to meet the margin requirements in order for your futures position to remain open.

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Writing Puts to Purchase Stocks

If you are very bullish on a particular stock for the long term and is looking to purchase the stock but feels that it is slightly overvalued at the moment, then you may want to consider writing put options on the stock as a means to acquire it at a discount. [Read on. ]

What are Binary Options and How to Trade Them?

Also known as digital options, binary options belong to a special class of exotic options in which the option trader speculate purely on the direction of the underlying within a relatively short period of time. [Read on. ]

Investing in Growth Stocks using LEAPS® options

If you are investing the Peter Lynch style, trying to predict the next multi-bagger, then you would want to find out more about LEAPS® and why I consider them to be a great option for investing in the next Microsoft®. [Read on. ]

Effect of Dividends on Option Pricing

Cash dividends issued by stocks have big impact on their option prices. This is because the underlying stock price is expected to drop by the dividend amount on the ex-dividend date. [Read on. ]

Bull Call Spread: An Alternative to the Covered Call

As an alternative to writing covered calls, one can enter a bull call spread for a similar profit potential but with significantly less capital requirement. In place of holding the underlying stock in the covered call strategy, the alternative. [Read on. ]

Dividend Capture using Covered Calls

Some stocks pay generous dividends every quarter. You qualify for the dividend if you are holding on the shares before the ex-dividend date. [Read on. ]

Leverage using Calls, Not Margin Calls

To achieve higher returns in the stock market, besides doing more homework on the companies you wish to buy, it is often necessary to take on higher risk. A most common way to do that is to buy stocks on margin. [Read on. ]

Day Trading using Options

Day trading options can be a successful, profitable strategy but there are a couple of things you need to know before you use start using options for day trading. [Read on. ]

What is the Put Call Ratio and How to Use It

Learn about the put call ratio, the way it is derived and how it can be used as a contrarian indicator. [Read on. ]

Understanding Put-Call Parity

Put-call parity is an important principle in options pricing first identified by Hans Stoll in his paper, The Relation Between Put and Call Prices, in 1969. It states that the premium of a call option implies a certain fair price for the corresponding put option having the same strike price and expiration date, and vice versa. [Read on. ]

Understanding the Greeks

In options trading, you may notice the use of certain greek alphabets like delta or gamma when describing risks associated with various positions. They are known as “the greeks”. [Read on. ]

Valuing Common Stock using Discounted Cash Flow Analysis

Since the value of stock options depends on the price of the underlying stock, it is useful to calculate the fair value of the stock by using a technique known as discounted cash flow. [Read on. ]

Futures

What Are Futures?

Futures are derivative financial contracts that obligate the parties to transact an asset at a predetermined future date and price. Here, the buyer must purchase or the seller must sell the underlying asset at the set price, regardless of the current market price at the expiration date.

Underlying assets include physical commodities or other financial instruments. Futures contracts detail the quantity of the underlying asset and are standardized to facilitate trading on a futures exchange. Futures can be used for hedging or trade speculation.

Key Takeaways

• Futures are financial contracts obligating the buyer to purchase an asset or the seller to sell an asset and have a predetermined future date and price.
• A futures contract allows an investor to speculate on the direction of a security, commodity, or a financial instrument.
• Futures are used to hedge the price movement of the underlying asset to help prevent losses from unfavorable price changes.

Futures Explained

Futures—also called futures contracts—allow traders to lock in a price of the underlying asset or commodity. These contracts have expirations dates and set prices that are known up front. Futures are identified by their expiration month. For example, a December gold futures contract expires in December. The term futures tend to represent the overall market. However, there are many types of futures contracts available for trading including:

• Commodity futures such as in crude oil, natural gas, corn, and wheat
• Stock index futures such as the S&P 500 Index
• Currency futures including those for the euro and the British pound
• Precious metal futures for gold and silver
• U.S. Treasury futures for bonds and other products

It’s important to note the distinction between options and futures. Options contracts give the holder the right to buy or sell the underlying asset at expiration, while the holder of a futures contract is obligated to fulfill the terms of the contract.

Investors can use futures contracts to speculate on the direction in the price of an underlying asset

Companies can hedge the price of their raw materials or products they sell to protect from adverse price movements

Futures contracts may only require a deposit of a fraction of the contract amount with a broker

Investors have a risk that they can lose more than the initial margin amount since futures use leverage

Investing in a futures contract might cause a company that hedged to miss out on favorable price movements

Margin can be a double-edged sword meaning gains are amplified but so too are losses

Using Futures

The futures markets typically use high leverage. Leverage means that the trader does not need to put up 100% of the contract’s value amount when entering into a trade. Instead, the broker would require an initial margin amount, which consists of a fraction of the total contract value. The amount held by the broker can vary depending on the size of the contract, the creditworthiness of the investor, and the broker’s terms and conditions.

The exchange where the future trades will determine if the contract is for physical delivery or if it can be cash settled. A corporation may enter into a physical delivery contract to lock in—hedge—the price of a commodity they need for production. However, most futures contracts are from traders who speculate on the trade. These contracts are closed out or netted—the difference in the original trade and closing trade price—and are cash settled.

Futures Speculation

A futures contract allows a trader to speculate on the direction of movement of a commodity’s price.

If a trader bought a futures contract and the price of the commodity rose and was trading above the original contract price at expiration, then they would have a profit. Before expiration, the buy trade—long position—would be offset or unwound with a sell trade for the same amount at the current price effectively closing the long position. The difference between the prices of the two contracts would be cash settled in the investor’s brokerage account, and no physical product will change hands. However, the trader could also lose if the commodity’s price was lower than the purchase price specified in the futures contract.

Speculators can also take a short or sell speculative position if they predict the price of the underlying asset will fall. If the price does decline, the trader will take an offsetting position to close the contract. Again, the net difference would be settled at the expiration of the contract. An investor would realize a gain if the underlying asset’s price was below the contract price and a loss if the current price was above the contract price.

It’s important to note that trading on margin allows for a much larger position than the amount held by the brokerage account. As a result, margin investing can amplify gains, but it can also magnify losses. Imagine a trader who has a $5,000 broker account balance and is in a trade for a $50,000 position in crude oil. Should the price of oil move against their trade, they can incur losses that far exceed the account’s $5,000 initial margin amount. In this case, the broker would make a margin call requiring additional funds be deposited to cover the market losses.

Futures Hedging

Futures can be used to hedge the price movement of the underlying asset. Here, the goal is to prevent losses from potentially unfavorable price changes rather than to speculate. Many companies that enter hedges are using—or in many cases producing—the underlying asset.

For example, a corn farmer can use futures to lock in a specific price for selling their corn crop. By doing so, they reduce their risk and guarantee they will receive the fixed price. If the price of corn decreased, the company would have a gain on the hedge to offset losses from selling the corn at the market. With such a gain and loss offsetting each other, the hedging effectively locks in an acceptable market price.