Futures Market Basics

Trading commodity futures and options is not for everyone. It is a volatile, complex, and risky business. Before you invest any money in futures or options contracts, you should:

• Consider your financial experience, goals, and financial resources and know how much you can afford to lose above and beyond your initial payment.
• Understand commodity futures and option contracts and your obligations in entering into those contracts.
• Understand your exposure to risk and other aspects of trading by thoroughly reviewing the risk disclosure documents your broker is required to give you.
• Know whom to contact if you have a problem or question.

Ask questions and gather information before you open an account.

Our Consumer Protection information will provide you with general information about trading commodity futures and options.

Fraud Advisories from the CFTC are intended to alert you to warning signs of possible fraudulent activity, and suggest precautions you should take before committing funds. We encourage you to review these advisories before you trade.

The National Futures Association (NFA) provides detailed information for investors at its website and we encourage you to visit there for more customer resources.

What is a Futures Contract?
A futures contract is an agreement to buy or sell in the future a specific quantity of a commodity at a specific price. Most futures contracts contemplate actual delivery of the commodity can take place to fulfill the contract. However, some futures contracts require cash settlement in lieu of delivery, and most contracts are liquidated before the delivery date. An option on a commodity futures contract gives the buyer of the option the right to convert the option into a futures contract. Futures and options must be executed on the floor of a commodity exchange—with very limited exceptions—and through persons and firms who are registered with the CFTC.

Who Uses Futures and Options Markets?
Most of the participants in the futures and option markets are commercial or institutional users of the commodities they trade. These users, most of whom are called "hedgers," want the value of their assets to increase and want to limit, if possible, any loss in value. Hedgers may use the commodity markets to take a position that will reduce the risk of financial loss in their assets due to a change in price. Other participants are "speculators" who hope to profit from changes in the price of the futures or option contract.

History of Futures Trading in the U.S.
Futures contracts for agricultural commodities have been traded in the U.S. for more than 100 years and have been under Federal regulation since the 1920s. In the last 20 years, futures trading has expanded rapidly into many new markets, beyond the domain of traditional physical and agricultural commodities. Futures and options now are offered on many energy commodities such as crude oil, gasoline heating, oil, and natural gas, as well as on a vast array of financial instruments, including foreign currencies, U.S. and foreign government securities, and U.S. and foreign stock indices. In recent years, new futures contracts have been offered in non-traditional commodity areas such as electricity, seafood, dairy products, crop yields, and weather derivatives. Significant Dates in CFTC History gives more information about the history of futures trading.

Contract Review and Market Surveillance
To ensure the financial and market integrity of the nation's futures markets, the CFTC reviews the terms and conditions of proposed futures and option contracts. Before an exchange lists a new futures or option contract for trading, it must certify that the contract complies with the requirements of the Commodity Exchange Act (CEA) and the Commission’s regulations, including the requirement that the contract terms reflect commercial trading practices and that the contract not be readily susceptible to manipulation. The Commission conducts daily market surveillance and, in an emergency, can order an exchange to take specific action or to restore orderliness in any futures contract being traded.

Companies and individuals who handle customer funds or give trading advice must apply for registration through the National Futures Association, a self-regulatory organization approved by the Commission.

The CFTC seeks to protect customers by

• requiring registrants to disclose market risks and past performance information to prospective customers,
• requiring that customer funds be kept in accounts separate from those maintained by the firm for its own use, and
• requiring customer accounts to be adjusted to reflect the current market value at the close of trading each day.

The CFTC also monitors registrant supervision systems, internal controls, and sales practice compliance programs.

Commodity exchanges complement Federal regulation with rules of their own—rules covering clearance of trades, trade orders and records, position limits, price limits, disciplinary actions, floor trading practices, and standards of business conduct. A new or amended exchange rule may be implemented on certification by the exchange that the new or amended rule complies with the Commodity Exchange Act and Commission regulations. The CFTC may also direct an exchange to change its rules or practices if violations are found. The National Futures Association performs similar functions for non-exchange member firms. The CFTC also regularly audits each exchange’s and the NFA’s compliance program.