Commodity Futures Contracts Explained: Prices & Trends in 2025
Explore the essentials of commodity futures contracts, including how they work, examples, trading strategies, and key risks in 2025. Learn how to invest smartly in commodity futures.
Adam Hayes, Ph.D., CFA, brings over 15 years of Wall Street experience as a derivatives trader and expert in economics and behavioral finance. Holding a master’s in economics from The New School and a Ph.D. from the University of Wisconsin-Madison, Adam is also a CFA charterholder with FINRA Series 7, 55 & 63 licenses. He currently researches and teaches economic sociology and finance at Hebrew University in Jerusalem.
What Is a Commodity Futures Contract?
A commodity futures contract is a standardized legal agreement to buy or sell a specific quantity of a commodity at a fixed price on a set future date. These contracts serve as tools for hedging risks or speculating on price movements of commodities like oil, gold, or wheat.
Unlike options, futures contracts impose an obligation to fulfill the contract unless closed before expiration, meaning the buyer or seller must transact the commodity at the agreed price and date.
Key Highlights
- Standardized contracts obligate the buyer or seller to transact a commodity at a predetermined price on a future date.
- Used for hedging commodity price risks or speculating on market direction with leverage.
- Leverage amplifies both potential gains and losses.
- IRS requires Form 6781 to report gains and losses from these contracts.
How Commodity Futures Contracts Operate
Most commodity futures contracts are settled in cash upon expiration, reflecting the difference between contract price and market price. Common underlying assets include crude oil, natural gas, gold, silver, wheat, and corn.
Contracts are named after their expiration month, for example, a 'September oil futures contract.' Due to high volatility in commodity prices, futures trading can result in significant profits or losses.
Note: Futures are traded on regulated exchanges with standardized terms, while forward contracts are private OTC agreements customizable to parties’ needs.
Speculating with Commodity Futures in 2024
Speculators use commodity futures to bet on price directions, taking long (buy) or short (sell) positions. The high leverage means only a fraction of the contract value is required upfront, called margin.
For instance, with an initial margin of $3,700, an investor can control a futures contract for 1,000 barrels of oil priced at $45,000. If oil rises to $60 per barrel, the investor gains $15,000, representing a substantial return on margin.
However, leverage also increases risk, and small price movements can cause large losses, making futures trading suitable only for experienced investors.
Risks of Speculating
Failure to close a futures position can result in mandatory delivery of unwanted commodities. Margin calls demand additional funds if losses accumulate, and brokers require approval before margin trading.
Hedging with Commodity Futures
Businesses use futures to lock in prices for commodities they produce or consume, protecting against adverse price fluctuations. For example, a plastics manufacturer might hedge natural gas prices to stabilize production costs.
If prices rise, gains from the futures contract offset higher input costs. Conversely, if prices fall, the company may miss out on savings but gains price certainty.
Hedging Risks
Over-hedging or fixed contract prices can lead to missed opportunities or losses when unwinding contracts.
Advantages and Disadvantages
- Leverage requires only partial upfront capital.
- Both speculators and businesses can trade on price movements.
- Hedging controls costs and reduces price uncertainty.
- Leverage magnifies losses and can trigger margin calls.
- Fixed prices may cause missed gains during favorable market moves.
- Over-hedging can lead to losses when closing positions.
Practical Example: Soybean Futures Contract
A farmer expecting to harvest 1,000,000 bushels of soybeans can sell 200 futures contracts (each for 5,000 bushels) at $15 per bushel to lock in revenue. This guarantees $15 million regardless of market prices at harvest.
If market prices fall to $13, the farmer gains $2 per bushel compared to the market. If prices rise to $17, the farmer misses out on additional profits but gains price stability.
How to Start Trading Commodity Futures Online in 2024
- Select a reputable online commodity broker, such as Interactive Brokers, known for diverse products and low fees.
- Complete required financial documentation to open an account.
- Fund your trading account.
- Create a trading plan aligned with your risk tolerance and goals.
- Begin trading cautiously, starting with small positions to manage risk.
Avoid overtrading and understand the risks before increasing exposure.
Understanding the Commodity Futures Trading Commission (CFTC)
The CFTC regulates commodity futures and options markets in the U.S. to ensure fair, competitive, and transparent trading while protecting investors from fraud and manipulation. Established in 1974, it oversees market integrity and compliance.
Frequently Asked Questions
Are Commodity Futures Contracts Transferable?
Yes, these standardized contracts can be transferred between parties on exchanges, but the obligations remain binding.
Why Use Forward and Futures Contracts?
Both contract types help mitigate price volatility by locking in prices ahead of time, protecting traders and businesses from unpredictable market swings.
How Are Commodity Futures Gains Reported for Taxes?
IRS Form 6781 must be filed to report gains and losses from commodity futures, classified as 1256 Contracts.
What Is the Commodity Futures Modernization Act?
Enacted in 2000, this U.S. law clarified the regulation of OTC derivatives, leaving many unregulated to foster market innovation.
Explore useful articles in Futures and Commodities Trading as of 09-06-2021. The article titled " Commodity Futures Contracts Explained: Prices & Trends in 2025 " offers in-depth analysis and practical advice in the Futures and Commodities Trading field. Each article is carefully crafted by experts to provide maximum value to readers.
The " Commodity Futures Contracts Explained: Prices & Trends in 2025 " article expands your knowledge in Futures and Commodities Trading, keeps you informed about the latest developments, and helps you make well-informed decisions. Each article is based on unique content, ensuring originality and quality.