Futures exist to solve a real economic problem: uncertainty about future prices. A wheat farmer doesn't know what wheat will cost when harvest arrives. An airline doesn't know what jet fuel will cost next year. Futures contracts let both sides lock in a price today, eliminating that uncertainty.
A simple example
Scenario: It's January. A wheat farmer expects to harvest 10,000 bushels in July. Current price: £5/bushel. He fears prices might fall by July.
He sells a July wheat futures contract at £5/bushel. A bread maker, who fears prices might rise, buys it.
July arrives. Price is £4/bushel.
Farmer: protected — gets £5 regardless. ✓
Bread maker: pays £5 for £4 wheat — overpaid, but had certainty. ✓ (still useful)
How futures work in practice
Futures are exchange-traded contracts with standardised sizes, delivery dates, and quality specifications. Key features:
- Leverage: You only need to post a fraction of the contract value (margin) — typically 5–15%. This amplifies gains and losses dramatically.
- Mark to market: Gains and losses are settled daily. If the price moves against you, you must top up your margin account immediately or be liquidated.
- Physical vs cash settlement: Most futures are cash-settled (you never actually receive barrels of oil); some commodity futures do involve physical delivery.
Why futures matter even if you never trade them
Futures prices are leading indicators of where markets expect prices to go. When oil futures spike, petrol prices will follow. When grain futures rise after a drought, food inflation is coming. Financial futures — on stock indices, interest rates, and currencies — are how professional investors hedge their portfolios daily. The futures market often moves before the underlying asset does.
What this means for you
Trading individual futures is not appropriate for most retail investors — leverage and daily mark-to-market can wipe out accounts quickly. But understanding futures prices helps you interpret commodity price moves, read economic signals, and understand how institutional investors manage risk. Oil futures, bond futures, and currency futures are reported in financial media daily — knowing what they mean makes you a more informed reader of markets.