A regulated futures contract is a legally binding contract to buy or sell a particular financial instrument or commodity at a predetermined price at a specified time in the future. These contracts have two essential features:
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Margin Accounts: In regulated futures contracts, both parties must deposit and withdraw amounts from a margin account according to daily market conditions. This process is known as marking to market.
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Qualified Exchange: The contracts must be traded on a qualified board of exchange, adhering to its rules and regulations.
Margin Accounts and Mark to Market
Margin Accounts
A margin account is an account where traders deposit collateral. The primary purpose is to manage the risk associated with futures trading. Here, the initial margin is a deposit required by an exchange, while the maintenance margin is the minimum balance that must be maintained.
Mark to Market (MTM)
Marking to market involves adjusting the value of an account based on daily market price movements. If the market moves against the position, additional funds (margin) must be deposited to meet the maintenance margin requirements. Conversely, if the market moves favorably, funds may be withdrawn.
Trading on Qualified Exchanges
Regulated futures contracts are strictly overseen by regulatory bodies such as the Commodity Futures Trading Commission (CFTC) in the United States. These contracts are traded on exchanges like the Chicago Mercantile Exchange (CME) or the Intercontinental Exchange (ICE), which ensure transparency, fairness, and efficiency.
Example: Chicago Mercantile Exchange (CME)
The CME offers a variety of futures contracts ranging from agricultural commodities to financial instruments. Traders must follow specific rules and regulations set by the CME to engage in futures trading.
Historical Context
Futures contracts have evolved significantly over centuries, beginning with agricultural commodities in ancient Mesopotamian civilizations. Modern futures trading commenced in the United States in the 19th century with the establishment of the Chicago Board of Trade (CBOT).
Applicability of Regulated Futures Contracts
Regulated futures contracts are widely used by:
- Speculators: Traders aiming to profit from market price fluctuations.
- Hedgers: Businesses looking to manage risk associated with price volatility of commodities or financial instruments.
Related Terms
- Mark to Market (MTM): The daily adjustment of margin accounts based on market price changes.
- Intrinsic Value: The inherent worth of an asset, as per fundamental analysis.
- Risk Management: Techniques employed to minimize financial risks in trading.
FAQs
What is the main objective of margin accounts?
How does marking to market affect futures trading?
Are regulated futures contracts used only in commodities trading?
References
- Commodity Futures Trading Commission (CFTC), Official Website
- Chicago Mercantile Exchange (CME), About Us
- Hull, J. C. (2012). Options, Futures, and Other Derivatives. Pearson Education.
Summary
A regulated futures contract is a vital financial instrument that promotes transparency and risk management in trading. By marking to market and trading on qualified exchanges, these contracts ensure daily market price adjustments and adherence to regulatory standards, making them integral parts of modern financial systems.
Explore more about related financial terms by navigating through our Encyclopedia to deepen your understanding of market dynamics and risk management strategies.
