A futures contract is a legally binding, exchange-traded agreement to buy or sell a specific quantity of an asset — a commodity, financial instrument, currency, or index — at a predetermined price on a specified future date. Unlike options, futures contracts obligate both parties: the buyer agrees to take delivery (or cash settlement); the seller agrees to make delivery (or accept cash settlement). Futures are traded on regulated exchanges (CME Group, ICE) with the exchange's clearinghouse guaranteeing performance.
Key structural features: standardized contract size (e.g., 1,000 barrels of oil, $100,000 face value of T-bonds), daily mark-to-market (gains and losses are credited/debited daily), initial margin and maintenance margin requirements (much smaller than the contract value, providing significant leverage), and margin calls when the account falls below maintenance margin.
Hedging with futures: a wheat farmer might sell wheat futures to lock in a price (short hedge); a bakery might buy wheat futures to lock in input costs (long hedge). Speculation with futures: traders take positions based on anticipated price movements, with high leverage amplifying both gains and losses.
Financial futures include interest rate futures (T-bond futures for duration hedging), stock index futures (S&P 500 futures), and currency futures. The basis is the difference between the spot price and the futures price; basis risk is the risk that this relationship changes unexpectedly.
> Exam tip: On the Series 7 and Series 65/66, know that futures OBLIGATE both parties (unlike options, which give rights). Understand daily mark-to-market, initial vs. maintenance margin, and margin calls. Know that futures are NOT securities for regulatory purposes (they are regulated by the CFTC, not the SEC), though security futures are a hybrid regulated by both.