For futures contracts, instruments which compensate the trader for price changes, may be used to hedge price risk (i.e. lock in a price), and are in zero net supply, standardized, exchange-traded, margined, marked-to-market, netted, and centrally-cleared.
A future is a contract compensating the trader for movements in the price of an asset (physical or financial). Futures may be used by producers or consumers exposed to price risk to lock in prices.
Futures contracts generally have seven identifying features:
- they are in zero net supply: each long exposure has a corresponding short exposure;
- they are standardized: the contract is for a pre-specified amount of a specified quality at a predetermined expiry date, and possibly in a specified location;
- they are exchange-traded instruments;
- traders must post margin in an account;
- traders' margin accounts are marked-to-market: P&L is realized regularly (often daily) by crediting or debiting each trader's margin account;
- positions are netted: buys and sells of the same contract do not result in positive and negative holdings, they instead cancel each other out; and,
- a well-capitalized central clearinghouse handles marking to market and interposes itself between all traders: all traders have the clearinghouse as their counterparty, not whomever they traded with.
