If your clients are looking for exposure to commodities in their portfolios, exchange traded funds (ETFs) are an easy way to get it without the hassle of buying and/or rolling futures contracts.

What Are Futures?

Futures, as they relate to commodities, are contracts between two parties.

Let’s use wheat as an example. Someone purchasing a December futures contract for wheat is locking in the current price of that contract, while the person selling such a contract is saying that they will deliver wheat at the price for which the futures contract was purchased.

As December approaches, one of three things usually happens:

  • Roll the contract and purchase another one for a later date
  • Take delivery of the wheat
  • Settle the contract for cash

A majority of the futures contracts traded on the exchange floor are settled or swapped for cash before the expiration date.

Speculators – those investing for profit – don’t usually want to take delivery; they’ll often own futures contracts in order to profit from rising commodity prices. For that reason, they want to sell before the contract expires to avoid the awkward situation of having a few tons of wheat show up on their doorstep.

Not everyone who owns futures has the same objective. For instance, a farmer would use futures to lock in a price for a commodity or livestock to reduce risk, or hedge. Airlines often hedge rising fuel prices by purchasing futures contracts.

Subscribe to our free daily newsletters!
Please enter your email address to subscribe to ETF Trends' newsletters featuring latest news and educational events.