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Buyers and sellers create Futures contracts. This may seem strange at first if you are used to trading stocks which are issued by companies that determine the number of shares available. But Futures contracts are slightly different from stock-market shares. Whilst there only is a finite number of stockmarket shares available, in contrast there is an infinite number of potential Futures contracts available. As long as there is a buyer and a seller, together they can create a Futures contract.

Futures exchanges track how many Futures contracts are created and list the amount as 'volume'. Volume tells you how many contracts are created for each available commodity during each trading period. For example if you were looking at the October 2008 Crude Oil Futures contract (CLV8) and you saw a volume of 90,000 then you would know that 90,000 contracts had been created that day for the Crude Oil Futures contract which expires in October 2008.

Volume can tell you a lot about what is happening with a Futures contract and how many people are trading it, but it doesn't give you the whole picture because not all volume comes from traders getting into new trades. Some volume is generated by traders who are already in trades and want to exit their trades.

Futures traders who are in a trade and want to get out of a trade have to create a new contract to offset their other contract. Here's how it works.

Imagine there are four participants in this scenario - namely Buyer A, Seller A, Buyer B and Seller B. Now imagine that Buyer A wants to buy 10 October 2008 Crude Oil Futures contracts (CLV8). To do so he needs to find someone willing to sell those contracts. As it happens, Seller A wants to sell 10 October 2008 Crude Oil Futures contracts (CLV8) to enter her trade. Buyer A and Seller A get together and create 10 contracts so they are matched together.

Seller A — Buyer A

Now imagine that Buyer A wants to get out of his crude oil trade because he has made a handsome profit. To exit his trade, Buyer A doesn't go back to Seller A and tell her that he wants to get out of his contracts. That would be tedious and difficult. And, of course, Seller A may not want to buy the contracts back from Buyer A.

To exit his trade, Buyer A has to create new contracts to offset his current contracts. Since Buyer A bought his crude oil contracts to enter his trade, he must now sell crude oil contracts to exit his trade. In other words, Buyer A must become Seller B in our cast of characters. Here’s how it works.

Seller B (who is now effectively Buyer A) wants to sell 10 October 2008 Crude Oil Futures contracts (CLV8) to exit his trade. To do so, he needs to find someone willing to buy those contracts. As it happens, Buyer B wants to buy 10 October 2008 Crude Oil Futures contracts (CLV8) to enter his trade. Seller B and Buyer B get together and create 10 contracts so they are matched together.

Seller B — Buyer B

At this point, Buyer A can offset his contracts with himself (Seller B) by matching them together. This takes Buyer A completely out of his trade of 10 contracts.

Buyer A — Seller B

This leaves Seller A and Buyer B matched together in an active trade with 10 contracts.

Seller A — Buyer B

Let's go back now and see what affect these transactions had on volume. In the first trade, Buyer A and Seller A created 10 new contracts. This would have increased volume by 10. In the second trade, Buyer B and Seller B created 10 more new contracts. This would have increased volume by another 10, leaving a total volume of 20 (10 + 10 = 20).

But, as we mentioned before, this volume doesn't tell the whole story. Because Buyer A (who is also Seller B) offset his contracts, there are only 10 active contracts left. The number of contracts that remain active is referred to as 'open interest'. Open interest tells you how many contracts have been created and not yet liquidated or offset.

As a Futures trader you want to know not only how many contracts have been created but also how many of those contracts remain active. High volume and high open interest are signs of good liquidity in the market, which means it should be quite easy for you to quickly enter and exit your own trades at a good price (i.e. small spread between the bid and the ask price). Low volume and low open interest are signs of poor liquidity in the market, which means it will most likely be quite difficult for you to quickly enter and exit your own trades at a good price.

Now that you have a good idea of what a Futures contract looks like, let's take a look at the buyers and sellers of Futures contracts.

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You can be either a buyer or a seller of a Futures contract. The Futures market gives you the flexibility sell a contract just as easily as you can buy a contract. As long as there is someone on the other side willing to sell the contract you want to buy, or to buy the contract you want to sell, you can create the contract.

Typically, Futures speculators want to buy a Futures contract when they believe the price is going to go up, and they want to sell a Futures contract when they believe the price is going to go down. The following table illustrates what will happen to the value of your Futures contract based on whether you bought or sold the contract to enter your trade:

	Futures Contract Price Goes DOWN	Futures Contract Price Goes UP
Buy the Futures Contract (Go long)	Lose Money	Make Money
Sell the Futures Contract (Go short)	Make Money	Lose Money

Futures contract prices fluctuate from day to day. Your job as a Futures speculator is to determine in which direction you believe the price is going to move and place your trades accordingly. You will learn more about how to analyze a Futures contract, and project where the price is going to move in the future, in later sections.

Whilst Futures contract prices fluctuate from day to day, some Futures exchanges limit the distance some Futures contracts can move in one trading period. Futures contracts with maximum price fluctuation rules attached to them will stop trading if they move too far in one direction.

Depending on the exchange and the Futures contract in question, the contract may:

• stop trading for a few minutes and then begin trading again with a new price limit; or
• stop trading for a few minutes and then begin trading again with the same price limit; or
• stop trading for the day.

Futures contracts also have what are known as 'Limit up' and 'Limit down' thresholds. If the price of the Futures contract moves up too high or down too low, trading on that contract will stop for a few minutes to allow the exchange directors to determine whether trading should continue that day or if it should be halted to preserve order and prevent panic on the exchange floor.

You may be looking at the table above and wondering why anyone would want to buy a Futures contract on a commodity that is losing value or why anyone would want to sell a Futures contract on a commodity that is gaining value. It just doesn’t seem to make sense. To better understand the dynamic of buyers and sellers in the Futures market you need to understand why those buyers and sellers are participating in the market in the first place.

Buyers and sellers of Futures contracts are typically divided into two groups: 'hedgers' and 'speculators'.

Hedgers are traders who use Futures contracts to offset, or hedge, risks they face by dealing with the actual underlying commodities that are covered in the Futures market and the price swings associated with them.

For example, a farmer who grows corn has to pay for all of his seed, fertilizer, farm equipment and so on up front if he wants to have a crop that he can sell at harvest. Unfortunately he has no way of knowing what the price of corn will be at harvest-time. Prices may be good but, if there is too much supply on the market when he goes to sell his corn, prices may be extremely low and he could lose nearly everything. To prevent this from happening the farmer can sell corn Futures contracts to hedge his risk. This will lock in the price he can get for his corn when he harvests it later in the year.

If the price of corn goes down, the farmer will be able to sell his corn for less, but he can offset his losses with the profits he makes on the Futures contracts he sold. (Remember, you make money on contracts you sell when prices go down.)

On the other hand, if the price of corn goes up the farmer will be able to sell his corn for more but he will incur some losses on the Futures contracts he sold. (Remember, you lose money on contracts you sell when prices go up.)

In the end the farmer can count on a relatively stable income either way. It is impossible for the farmer to hedge away 100 percent of his/her risk, but (s)he can get close.

Tied to that example is the food production company which must buy the corn the farmer produces to make food or the corn-based ethanol company which must buy the corn the farmer produces to make ethanol. They too cannot know what the price of corn will be when they need to buy it in the future. Prices may be low, which would be great for these companies. Or prices may be high, which would eat into their profit margins. To prevent profit losses these companies can buy corn Futures contracts to hedge their risk. This will lock in the price at which they can buy corn when they need to buy it later in the year.

If the price of corn goes up the companies will have to pay more for their corn, but they can offset their losses with the profits they make on the Futures contracts they buy. (Remember, you make money on contracts you buy when prices go up.)

On the other hand if the price of corn goes down the companies will be able to buy their corn for less but they will lose money on the Futures contracts they buy. (Remember, you lose money on contracts you buy when prices go down.)

In the end the companies can count on relatively stable profit margins either way.

You would call the farmer a 'short hedger' because he sells, or goes short, on Futures contracts to hedge his risks. You would call the companies 'long hedgers' because they buy, or go long, on Futures contracts to hedge their risks. Now that you understand how hedgers use Futures contracts to offset risks, let's talk about how speculators use Futures contracts.

'Speculators' are traders who use Futures contracts to speculate on, or profit from, price changes in the underlying commodities that are covered in the Futures market. Speculators typically do not deal with the actual underlying commodities covered by the Futures contract in their day-to-day business. You will most likely fall into this category of Futures traders.

Speculators try to buy Futures contracts on commodities that they believe are going to increase in value and sell Futures contracts on commodities that they believe are going to decrease in value.

Speculators play a vital role in the Futures market. They provide liquidity for hedgers who are looking to offset their risk. Speculators - as the term 'speculate' implies - take on risk when they enter a trade. In other words hedgers pass their risks on to speculators who hope to profit from them.

Now that you have a basic understanding of who the buyers and sellers in the Futures market are, let's take a look at the commodities those buyers and sellers are trading.

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When many people think of the commodity Futures market they think about trading orange juice and pork bellies. Whilst these commodities do trade on the Futures exchanges, they only make up an increasingly smaller portion of the trading activity. Nowadays oil contracts, Eurodollar contracts, interest-rate contracts, grains and others dominate the Futures market.

The Futures market offers a broad spread of exciting contracts which you can trade. You can profit from rising oil prices. You can take advantage of a falling currency. You can offset the affects of rising food prices.

We broadly divide the available Futures contracts into two categories: 'Commodity Futures' and 'Financial Futures'.

Commodity Futures are Futures contracts that are based on a physical commodity that you can grow/raise/mine and transport from place to place. Commodity Futures comprise the following Futures sectors:

• Agriculture
• Base Metals
• Energies
• Meats
• Precious Metals
• Softs

Financial Futures are Futures contracts that are based on financial products likes bonds and stock indices. Financial Futures comprise the following Futures sectors:

• Bonds
• Currencies
• Short-term Interest Rates
• Stock Indices

Within each of these sectors you will find contracts ranging from wheat and soya beans to gold and palladium, and each contract has a unique personality. We will discuss each of these sectors and the contracts within them in detail within subsequent sections.

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Every Futures contract has a specified date on which it expires and a specified price at which the seller must provide the commodity and the buyer must pay for the commodity. Let's first take a look at the dates involved with a Futures contract, and then we'll take a look at the price and actual delivery of the underlying commodity.

Futures contracts have three key dates of which you need to be aware:

• Notice date
• Expiry date
• Delivery date

The 'Notice date' is the first day the seller of a Futures contract can give the buyer of the contract notice to expect delivery of the underlying commodity. For example, if you sell a crude oil Futures contract, you can give notice to the buyer of the contract that you will be delivering the actual oil. In fact you will never actually do this. You will instead offset your contracts before taking delivery.

The 'Expiry date' is the day that the Futures contract expires. It is also the last trading day for the Futures contract.

Futures contracts expire every month. Not every commodity is traded every month, but there are always some sorts of commodity contracts available each month. You need to check the specific commodity you are trading to see when the contract expires.

Every Futures contract has a unique ticker symbol that tells you what the underlying commodity is and when the contract expires. Each ticker symbol is broken up into three parts: the instrument identification , the month of expiration and the year of expiration. For example the ticker symbol for a Crude Oil contract that expires in October of 2008 is CLV8. 'CL' represents the instrument. 'V' represents the month of expiration. '8' represents the year of expiration. If the Crude Oil contract were going to expire in April of 2011 then the ticker would be CLJ11.

We will discuss the commodity symbols for various commodities in later sections, but you should memorize the following month codes now to help you as you look at various Futures quotes:

F	January
G	February
H	March
J	April
K	May
M	June
N	July
Q	August
U	September
V	October
X	November
Z	December

The 'Delivery date' is the last date by which the underlying commodity must be delivered from the seller to the buyer. The delivery date is also known as the 'Settlement date'. Now, the seller doesn't have to wait until the delivery date to deliver the underlying commodity. The seller can deliver at any time during the delivery period - the preiod between the first notice date and the delivery date.

Once again, you should never have to worry about delivering or receiving delivery of a commodity you are trading. You should offset your positions before your contracts expire. In fact most traders - both speculators and hedgers - offset their positions. Only about two percent of Futures contracts actually go to delivery.

It is important to know that there are two types of delivery on Futures contracts: 'physical delivery' and 'cash-settled delivery'. Physical delivery occurs when the buyer receives the underlying commodity from the contract. Cash-settled delivery occurs when, instead of trying to receive an intangible asset like the S&P 500, the buyer receives the cash equivalent of what the underlying asset would be worth.

You now have the basic information that you need to understand what a Futures contract is and how it works. Let's now take a look at where and how you actually trade a Futures contract.

Futures Brokerages

A Futures brokerage is your portal to the Futures market. Your Futures brokerage provides you with access to a trading platform and account that enables you to buy and sell Futures contracts. Your brokerage also provides you with the tools that you will need to analyze and monitor your trades.

Futures Exchanges

When you place a trade to buy or sell a Futures contract on your Saxo platform Saxo sends that trade to a Futures exchange for execution. In the past your trade would have been sent to the trading pit on the floor of the Futures exchange for whatever contract you were trading. Floor traders would negotiate prices and your trade would be filled.

Whilst some trades are still executed on physical trading floors, many more are now executed in cyberspace. Complex computer systems match buyers with sellers and execute trades in fractions of a second. Technological advances like these have made trading more efficient and less expensive.

At Saxo you have access to more than 15 Futures exchanges around the world. Here is a list of some of the exchanges on which you can trade:

Chicago Board of Trade (CBOT), via ECBOT

Chicago Mercantile Exchange (CME), via GLOBEX

New York Mercantile Exchange (NYMEX), via GLOBEX

New York Board of Trade (NYBOT), via ICE NYBOT

GLOBEX

Eurex

Euronext

ICE

Borsa Italiana

London International Financial Futures Exchange (LIFFE)

Spanish Official Exchange (MEFF)

OMX Stockholm (SSE)

Now that you know where you can trade Futures contracts, let's take a look at how you actually go about placing your trades.

Trading Futures Contracts

Perhaps one of the most difficult concepts to grasp as a new Futures trader is the concept of margin. When you buy or sell a Futures contract you do not pay for the full value of the underlying commodity up front as you would if you were buying a stock, like Google, for $500. Instead you enter a trade and post 'margin', or a performance bond, with your Futures broker showing you have enough money to cover any losses you may incur from the trade.

For example, to buy a 100 oz. gold Futures contract, instead of having to pay $90,000 for 100 ounces of gold (at a market rate of $900 per ounce) up front all you have to do is set aside $4,455 in your account (which is also called a margin account) as margin, or a performance bond, to prove to your Futures broker that you can withstand some losses on this trade should they come.

The margin you set aside when you enter a trade is called your 'initial margin'. Once you are in a trade, however, you may not need to maintain the same level of margin. Once you are in a trade, you only need to meet what is called your 'maintenance margin requirement' - which, depending on the exchange, is typically lower. Maintenance margin is the amount of money you must set aside to remain in a trade. In the gold example above your maintenance margin requirement would only be $3,300, compared to the initial margin requirement of $4,455.

Once you have met your margin requirement, you can enter your trade.

You can buy or sell a Futures contract using either a market or a limit order. A 'market order' is a buy or sell order that instructs your broker to place the trade at the prevailing market rate. A 'limit order' is a buy or sell order that instructs your broker to place the trade at a specific price.

If you want to enter or exit a trade quickly and ensure you get in or out then you should use a market order. If you are comfortable waiting to enter or exit a trade until the price is just right then you could use a limit order to ensure you get exactly the price you desire.