Real World Example of Futures

Let's say a trader wants to speculate on the price of crude oil by entering into a futures contract in May with the expectation that the price will be higher by years-end. The December crude oil futures contract is trading at $50 and the trader locks in the contract. Since oil is traded in increments of 1,000 barrels, the investor now has a position worth $50,000 of crude oil (1,000 x $50 = $50,000). 3  However, the trader will only need to pay a fraction of that amount up front—the initial margin that they deposit with the broker. From May to December, the price of oil fluctuates as does the value of the futures contract. If oil's price gets too volatile, the broker may ask for additional funds to be deposited into the margin account—a maintenance margin.

In December, the end date of the contract is approaching, which is on the third Friday of the month. The price of crude oil has risen to $65, and the trader sells the original contract to exit the position. The net difference is cash settled, and they earn $15,000, less any fees and commissions from the broker ($65 - $50 = $15 x 1000 = $15,000). However, if the price oil had fallen to $40 instead, the investor would have lost $10,000 ($40 - $50 = negative $10 x 1000 = negative $10,000.