How Do Futures Contracts Work?
Each futures contract specifies the asset, quantity, delivery date, and price. Buyers agree to purchase and sellers agree to deliver at expiration. Most futures traders close positions before delivery — they are trading price movements, not seeking physical goods. Margin requirements are much lower than the contract's full value, creating significant leverage.
What Is the Difference Between Futures and Options?
Futures obligate both parties to transact at expiration. Options give the holder the right — but not the obligation — to buy or sell. This makes futures riskier because you cannot simply let the contract expire worthless. Futures also typically require less upfront capital due to margin-based trading.
Who Uses Futures and Why?
Hedgers use futures to lock in prices — airlines hedge fuel costs, farmers hedge crop prices. Speculators seek profit from price movements. Arbitrageurs exploit pricing differences between markets. Individual investors most commonly encounter futures indirectly through commodity ETFs or index-based products.
Frequently asked questions
Can you trade stock market futures?
Yes. Index futures based on the S&P 500, Nasdaq-100, and Dow Jones are among the most actively traded futures contracts. They allow investors to speculate on or hedge against broad market movements and are commonly referenced as indicators of pre-market sentiment.
How are futures taxed?
Under Section 1256 of the tax code, regulated futures contracts receive favorable 60/40 treatment: 60% of gains are taxed at the long-term capital gains rate and 40% at the short-term rate, regardless of how long you held the position.