Lessons › Markets of the world › Commodities: futures, contract sizes and expiry

World 6 · Markets of the world · lesson 8 · level 3

Commodities: futures, contract sizes and expiry

A commodity future is a deal for a fixed amount of something, like 1,000 barrels of oil, on a set future date.

In one line

A commodity future is a deal for a fixed amount of something, like 1,000 barrels of oil, on a set future date.

Explained simply

Imagine ordering a big crate of apples today for delivery next month, at a price you both agree now. A commodity future is that kind of deal, for a fixed amount of oil, gold or grain. Because each crate is big, a small change in price means a big change in money.

The lesson

Much commodity trading happens through futures contracts that fix the quantity, quality and delivery month; a standard US crude oil contract is 1,000 barrels and a standard US gold contract is 100 troy ounces. Each contract expires, so traders who want to stay in must close it and open a later month, which is called rolling over. Some contracts end with physical delivery of the goods, so traders who do not want delivery close or roll before the last trading day. In April 2020 one US crude oil contract even settled below zero near its expiry, a reminder that futures carry risks of their own.

A worked example

Illustrative example: crude oil trades at 80.00 dollars a barrel, so one 1,000-barrel contract is worth 80,000 dollars (1,000 times 80). A rise of 0.50 dollars is 50 ticks of 0.01 (0.50 divided by 0.01), worth 500 dollars (50 times 10). A stop 1.20 dollars away would risk 1,200 dollars on one contract (1,000 times 1.20).

The same idea at four levels

1. Beginner. A commodity future is a deal for a fixed amount of a commodity, such as 1,000 barrels of oil, for a set month.
2. Foundation. Contracts are big: 1,000 barrels of crude or 100 troy ounces of gold, so each small price step moves a lot of money.
3. Intermediate. The smallest step, a tick, is 0.01 dollars per barrel on crude oil and 0.10 dollars per ounce on gold, each worth 10 dollars per contract.
4. Advanced. Contracts expire, so traders roll to a later month or close out, and crude oil and gold contracts settle by physical delivery if held to the end.
5. Expert. Experts check the last trading day and the settlement type before trading, remembering that the May 2020 crude contract settled at −37.63 dollars.

Mistakes to avoid

• Forgetting that one contract controls a large quantity, so small price moves mean big money changes.
• Holding a contract into expiry without knowing whether it settles in cash or by delivery.
• Forgetting to roll before the last trading day.

Goal of this lesson: Understand how commodities trade through futures contracts with set sizes and expiry dates.