Gold Futures Trading Introduction
by Madhubanti Rudra
Both in the developing world and in the developed ones, the gold is treated as an asset class in itself. But in the backward economies, you have to trade in gold physically to take advantage from its price volatility. Contrastingly in the developed nations, where commodity futures market have flourished for years, you don’t have to buy or sell gold from physical market to cut profit out of it. Here hoarding gold is replaced by trading in gold future.
There are pockets in the developing world, where gold is still preferred as the safest tool of savings and investment. Both in the developing world and in the developed ones, the gold is treated as an asset class in itself. But in the backward economies, you have to trade in gold physically to take advantage from its price volatility.
Contrastingly in the developed nations, where commodity futures market have flourished for years, you don’t have to buy or sell gold from physical market to cut profit out of it. Here hoarding gold is replaced by trading in gold future.
Let’s explain the difference between physical trading of gold and the concept of futures trading with the example below.
Suppose the current gold price is $1000 per ounce and you have $100,000 for investment at your disposal. This much money will allow you to buy 100 ounce of gold. Now say after three months when the price of gold touches $1100 per ounce, you decide to sell it off to make a cool profit of $100 per ounce and hence $10,000 for your total holding over three months time.
Now let’s see what happens in the futures market with the same amount of gold and the similar assumption regarding the rise in the gold price. In majority gold exchanges of the world, futures contracts till four months are allowed. Let’s assume that market remains stable over the next three-month.
Now when you are trading in gold futures, you don’t have an obligation to buy or sell a specific quantity of the metal and cough up the entire price. Trading futures of any commodity means taking delivery of the underlying commodity at a given date in the future. For the seasoned investors, this is referred to as taking a long position.
To trade in gold futures, one needs to have a trading account which involves keeping a deposit. The amount of deposit varies with the exchanges all over the world. This is the margin money, which is required by the exchange. The traders have to buy a minimum volume of the gold as futures contract. Suppose the minimum volume is 100 ounce.
For the minimum amount of futures contract your initial investment is: the margin money which usually doesn’t exceed 10% of the investment, plus the brokerage charge which usually doesn’t exceed .25%. That means the investment for minimum volume of gold will cost you roughly $115.
Now gold market is one of the most liquid market and that make the futures price always touch the price of the underlying. Thus with 100,000 bucks in your pocket, you will be able to enter into the contract for almost 800 ounces of gold which is 8 times more than the physical market.
Due to this market dynamics, one can buy minimum volumes of gold for many times cheaper than it actually costs in the physical market and naturally with the same amount of investment, one will command many times more volumes of gold than he can do in the physical market.
With the same dynamics, at the end of three months, by selling 800 ounces of gold one can make a gross profit that is again many times more the profit made in physically gold market.
So you see how your gold can spin money for you and this is true for a bullish as well as a bearish market. Sounds to hot to resist? But don’t burn your hands before training yourself in the basics of gold futures trading— the whole affair has its downsides as well and you have to learn how to guard these risk factors. In any case, you have to make sure your delivery entails gold certification and accreditation by the assayer of the exchange.