The Risk Of Gold Futures Investing
Futures is the practice of exchanging an asset either physical or financial, at an established price and at a pre-established date. There are risks to this such as prices going in the wrong direction, or a default during the futures period, leaving one person due a profit but unable to collect.
That is not to say there aren’t advantages to futures investing. Some advantages are; eliminating the cost of settlement and storage, your original investment is less expensive and all participants trade exactly the same notional rights. All of this means that gold futures exceed the actual bullion production by many times over.
The problem with default futures is margins. A margin is a deposit at the demand of a clearer by the investors, who is looking to prevent the risk of default from growing too large. The margin is collected and managed by a clearer on behalf of the exchange. These deposits only need to cover the potential loss on the trade.
The margin calculation varies from one exchange to another and from one clearer to another. The final decision on margins and how to implement them is up to each firm and it is always a compromise between risk and the attractiveness of the product to the client.
This means that the speculators only have to pay a fraction of the value of the contractual amount as a down-payment. This means that a speculator can trade many times more gold than he could actually ever afford.
Investors only have to deposit about 2% of the actual value of the gold they want to buy but their broker retains the rights to close them out should the market turn against them. At the same time, investors must deposit their margins just in case the market turns a little against them.
Futures can also be artificially volatile. This means that when a big open positions start to close out near the deadline of a quarterly futures contract, the prices can fluctuate erratically with lots of ups and downs.
This happens when 99 out of 100 investors what to trade before the end of a session to keep the investors from taking actual possession of the gold and pay as much as 50 times as much as they did for the 2% margin deposit.
Understanding gold futures implied financing is important. If it is cheaper to borrow gold than dollars, then the spot or borrowing price will be below the future. If gold is more expensive to borrow than dollars then gold will be at a discount to the spot.
Sometimes all factors are not considered when buying gold futures. As a gold buyer the idea is to make a large profit from an economical shock that would be disastrous to other people. The risk of a financial meltdown occurring in the gold futures market is a real threat to gold investors.
There are two main world futures exchanges that trade gold. The COMEX located in New York and TOCOM located in Tokyo. Both of these are general commodities exchanges and trade substantially in futures contracts. The costs for trading gold futures are the bid-offer spread, commission and the financing cost of the margin.
Remember that futures must be closed and re-opened on a regular basis, usually quarterly. These moves also incur fees.
That is not to say there aren’t advantages to futures investing. Some advantages are; eliminating the cost of settlement and storage, your original investment is less expensive and all participants trade exactly the same notional rights. All of this means that gold futures exceed the actual bullion production by many times over.
The problem with default futures is margins. A margin is a deposit at the demand of a clearer by the investors, who is looking to prevent the risk of default from growing too large. The margin is collected and managed by a clearer on behalf of the exchange. These deposits only need to cover the potential loss on the trade.
The margin calculation varies from one exchange to another and from one clearer to another. The final decision on margins and how to implement them is up to each firm and it is always a compromise between risk and the attractiveness of the product to the client.
This means that the speculators only have to pay a fraction of the value of the contractual amount as a down-payment. This means that a speculator can trade many times more gold than he could actually ever afford.
Investors only have to deposit about 2% of the actual value of the gold they want to buy but their broker retains the rights to close them out should the market turn against them. At the same time, investors must deposit their margins just in case the market turns a little against them.
Futures can also be artificially volatile. This means that when a big open positions start to close out near the deadline of a quarterly futures contract, the prices can fluctuate erratically with lots of ups and downs.
This happens when 99 out of 100 investors what to trade before the end of a session to keep the investors from taking actual possession of the gold and pay as much as 50 times as much as they did for the 2% margin deposit.
Understanding gold futures implied financing is important. If it is cheaper to borrow gold than dollars, then the spot or borrowing price will be below the future. If gold is more expensive to borrow than dollars then gold will be at a discount to the spot.
Sometimes all factors are not considered when buying gold futures. As a gold buyer the idea is to make a large profit from an economical shock that would be disastrous to other people. The risk of a financial meltdown occurring in the gold futures market is a real threat to gold investors.
There are two main world futures exchanges that trade gold. The COMEX located in New York and TOCOM located in Tokyo. Both of these are general commodities exchanges and trade substantially in futures contracts. The costs for trading gold futures are the bid-offer spread, commission and the financing cost of the margin.
Remember that futures must be closed and re-opened on a regular basis, usually quarterly. These moves also incur fees.