How Oil Futures Contracts Work?

Oil futures are agreements to exchange a specific amount of oil at a specific price on a specific date. They’re traded on exchanges and reflect distinct forms of oil demand. Oil futures are a popular way to purchase and sell oil since they allow you to trade increasing and decreasing prices.

What is the purpose of futures contracts?

Futures are financial derivatives that bind the parties to trade an item at a fixed price and date in the future. Regardless of the prevailing market price at the expiration date, the buyer or seller must purchase or sell the underlying asset at the predetermined price.

How long do oil futures contracts last?

You’re not going to the store and buying a couple thousand 55-gallon barrels of crude oil to store in your backyard, are you? That’s just not feasible.

Crude oil futures contracts were created to allow oil corporations and companies that consume a lot of oil to plan delivery of the commodity at a set price and date. Today, these contracts are also traded between speculators who expect to profit from the commodity’s volatility.

On the futures market, these derivatives are a hot commodity, with the potential to yield large gains in a short period of time. Unfortunately, when bad decisions are made, the consequences can be just as severe.

The majority of oil futures contracts include the purchase and sale of 1,000 barrels of crude oil. When a contract is purchased, it stipulates that these barrels of oil will be delivered at a certain date (up to nine years away) and for a predetermined price at a predetermined date (or expiration date).

Let’s imagine you bought an oil futures contract today with a three-month expiration date; you’d be owed 1,000 barrels of oil three months from now, but you’d pay today’s price let’s say $50 per barrel as an example.

You notice that the price of oil has climbed to $51 per barrel in 30 days, indicating that your futures contract is now worth $1,000 more than you paid. If the price of oil fell to $49 per barrel, on the other hand, you would have lost $1,000.

In either case, you’ll want to sell as soon as possible when the contract expires. Individual investors and price speculators who aren’t large-scale crude oil users typically close off futures contracts well before they expire.

You’re probably not going to be able to store 1,000 barrels of oil. You probably don’t have enough room to store 55,000 gallons of oil. If you own the contract when it expires, you’ll have to decide where to store the oil and what to do with it. Your entire investment is gone if you opt not to take ownership.
Futures contracts lose value as they get closer to expiration. The futures market operates at a breakneck speed, with the thrill being in forecasting what will happen in a week rather than when the contract will expire. The premium paid for future value growth decreases as the contract approaches its expiration date. As a result, holding these contracts for too long will limit your prospective gains.

Pro tip: If you want to invest in oil futures, you should open an account with a broker who specializes in future contracts. When you open an account with TradeStation, you can get a $5,000 registration bonus.

How do oil futures generate revenue?

Market bubbles are frequently blamed on speculators. They raise asset values until they burst, profit from negative bets on the way down, and then switch their bets when the market bottoms. Oil speculators are frequently blamed for the current price volatility. Oil speculators have continued to migrate in and out of the market in quest of enormous returns, and this time has been no different. Here’s one of the more bizarre ways traders are trying to profit from the current oil market turbulence.

Typically, oil speculators earn money by speculating on crude oil futures. These bullish or bearish paper or electronic bets entail buying or selling a futures contract for a fixed quantity of oil at a price agreed upon today with a future delivery date. Someone negative on oil, for example, could sell short a futures contract, then buy back the contract at the now-lower pricing and pocket the difference if oil fell. It’s worth noting, though, that futures traders almost never take physical delivery of the oil, preferring instead to buy or sell contracts.

These negative bets flooded the market in the fall of 2014, as oil speculators became increasingly gloomy on the commodity, with some predicting that oil prices would plummet to $0. Traders proceeded to cover their short positions and create fresh bullish bets, intending to benefit if oil prices soon returned, and those bearish transactions began to flip more recently. Another bullish wager is reported to be in the works, in which some oil speculators are buying real oil and storing it at sea for a year in order to profit handsomely when oil prices rise in the future.

A bizarre oil trade is being set up by some of the world’s major oil trading corporations, including Royal Dutch Shell Plc, according to a recent Reuters exclusive.

What is the value of an oil futures contract?

Crude oil futures contracts have a 0.01 per barrel specification and are worth $10.00 per contract. Sunday through Friday, electronic trading of crude oil futures is performed on the CME Globex trading platform from 6:00 p.m. U.S. to 5:00 p.m. U.S. ET.

How can you profit from futures contracts?

Futures are traded on margin, with investors paying as little as ten percent of the contract’s value to possess it and control the right to sell it until it expires. Profits are magnified by margins, but they also allow you to gamble money you can’t afford to lose. It’s important to remember that trading on margin entails a unique set of risks. Choose contracts that expire after the period in which you estimate prices to peak. If you buy a March futures contract in January but don’t expect the commodity to achieve its peak value until April, the contract is worthless. Even if April futures aren’t available, a May contract is preferable because you can sell it before it expires while still waiting for the commodity’s price to climb.

Is it possible to hold futures overnight?

To hold a Futures or Options on Futures position overnight in any Futures contract, clients must have the overnight margin requirement pursuant to TD Ameritrade Futures & Forex’s requirements for the specific contract available at the closing of the day’s session.

When futures contracts expire, what happens?

Upon expiration, many financial futures contracts, such as the popular E-mini contracts, are cash settled. This means that the contract’s value is marked to market on the last day of trading, and the trader’s account is debited or credited based on whether the trader made a profit or loss. To preserve the same market exposure, large traders typically roll their bets before to expiration. During these rollover periods, some traders may try to profit on pricing abnormalities.

Are oil futures delivered physically?

The underlying asset of an option or derivatives contract is physically delivered on a fixed delivery date with a physical delivery. Let’s take a look at a physical delivery scenario. Assume two parties agree to a one-year Crude Oil futures contract at a price of $58.40 in March 2019. The buyer is committed to acquire 1,000 barrels of crude oil (unit for 1 crude oil futures contract) from the seller regardless of the commodity’s spot price on the settlement date. The long contract holder loses if the spot price on the specified settlement day in March is less than $58.40, while the short contract holder benefits. If the spot price is higher than the $58.40 futures price, the long position profits, while the selling loses.

Is crude oil a finite resource?

Although you can’t scent rotten oil from an oil drum lid as you can a gallon of milk, crude oil can go bad under the correct circumstances and with improper exposure. Oil, unlike other products, does not include components that expire on a regular basis.