Gold futures trading demystified
Gold futures refers to a deals made to trade gold at current market prices but with settlement at a future date. In other words you don’t have to pay everything now nor does the seller have to deliver the gold immediately either. The date of settlement signifies the actual date when the exchange takes place and the average wait time is approximately 3 months.
The goal of gold futures contracts is for traders to sell the gold they have purchased before the date of settlement for a profit and this method allows them to leverage much larger amounts for higher rewards but higher risks as well. On the date of settlement they will then have to settle only their profit or losses. The same is valid for the seller.
Gold future trading requires a margin for the simple reason that if gold prices fall the seller has little guarantee that the buyer will not walk and vice versa. The margin ranges from 2% to 20% depending on the conditions of the market and if gold prices fall you will be required to add to your initial margin and you can’t get out of a margin call until you sell the gold. This is where the risk comes in as you may end up paying a lot more for the gold than you initially invested.
Leveraging: High Reward Comes with High Risk
The lower the margin you are required to put down the higher the leverage and thus the higher the potential profits. Since you are only putting down a percentage of the value yet can trade with the entire amount it is easy for you to get carried away. Gold futures trading is a high risk trade because a slight adjustment in gold prices for a day can force you into a margin call which if you don’t meet you lose your initial investment and if you do you are still liable to lose both the initial investment as well as the extra margin deposited due to emotion as you will be tempted to close out your position. The fact of the matter is that most people lose money trading futures because of leverage since a meager difference in price can completely wipe out your investment.
Gold Future Trading: The Process
To trade gold futures you will have to find a broker who deals in futures who will manage your trades and your relationship with the gold futures market by contacting you to collect margin as an example. Be prepared to sign a legal agreement which explains the risks of trading gold futures and by signing you agree to accept all the risks without holding the broker liable. You will be required to provide personal information regarding your identity and creditworthiness and within a few days your account will be opened, after the broker conducts some background checks.
Gold Futures: Pricing
Understanding how gold futures are priced is vital before you consider trading because no one will allow you to use their gold/money for free. When you buy gold futures the contract is signed at the spot price of gold on that day but with the actual exchange taking place later.
During that period of delay your cash may earn you approximately 1% while the seller’s gold will only earn him 0.25% which you will have to cover for the duration of the futures contract. Essentially it is the interest you are paying to be allowed to leverage that gold because otherwise the seller could make a trade with instant deliverability.
As long as interest rates for dollars are higher than gold lease rates you will have to pay this difference, therefore you will have to deduct this cost from any profit you make as well. The latter means that you will have to make a significant profit before the future expires and settlement must be made.
Gold future trading is a dangerous game and it is not for the faint of heart therefore it is advisable you only proceed with money you can afford to lose because the outcome is not always a positive one.
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