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What is the difference between the spot price (cash market) of a commodity futures contract and the futures price (has an expiry month). More importantly, why would one trade the futures price rather than the spot price (pros/cons...?). All answers appreciated!
Can you help answer these questions from other members on NexusFi?
Trading: Primarily Energy but also a little Equities, Fixed Income, Metals, U308 and Crypto.
Frequency: Many times daily
Duration: Never
Posts: 5,241 since Dec 2013
Thanks Given: 4,584
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The spot price represents the price of a commodity for immediate physical delivery. What that actually means will vary market-to-market. For example in the US Natural Gas market people who were trading spot this morning were trading gas for delivery tomorrow and this afternoon they will be trading gas for delivery the day after. On Friday Morning's they trade gas for Saturday, Sunday & Monday normally as one package.
A futures contract is a financial derivative that tracks the forward price of a commodity and in many cases, but not all, can actually go to physical delivery. Sticking with our US Natural Gas theme, a contract of NG for May20 represents 10000 MMBtu of gas delivered rateably over the month of May 2020 to Henry Hub in Louisiana. If you do not exit these contracts by expiration (3rd last business day of the month - Tue 28 Apr for May20) you will have to go to delivery. So then your futures position becomes a physical forward position!
There's lots of reasons but the biggest is probably because most people do not have the means to accept or make the actual physical delivery. Also if you buy spot today, and sell it for tomorrow, you have to put that physical product somewhere for a day! So you really do need a lot more infrastrcuure to trade spot/physical. There's also considerably more credit risk, performance risk and it's a lot more capital intensive. If you buy from company ABC and sell to company XYZ the positions don't go away like with futures. You will have to actually take delivery from ABC, pay them, and then deliver to XYZ and bill them for payment.
Trading: Primarily Energy but also a little Equities, Fixed Income, Metals, U308 and Crypto.
Frequency: Many times daily
Duration: Never
Posts: 5,241 since Dec 2013
Thanks Given: 4,584
Thanks Received: 10,523
Thinking about, if you trade things like SPY, QQQQ, GLD, SILV your actually trading spot as they actually own the underlying, but these are ETFs not futures. But not all commodity ETFs work that way. USO (& UNG) just owns a bunch of crude oil (Natural Gas) futures not the spot physcial.
