Future Contract

Future contract is contract between two parties to buy or sell any asset at certain time in future at a certain price. Both parties are agreed to buy or sell certain quantity at certain time and certain price in future.

Aim of future contract is to protect producer and suppliers  from prices changes. 

Example : For example. One is book retailer and other is book publisher. Publisher has published the book and its current market rate is RS. 100. In future, if there is the shortage of paper, price of book may be Rs. 200 due to increasing the cost of paper. Due to this, book retailer shop will face the risk of loss in future. If there is huge supply of paper, book price may be of Rs. 50 in future, due to this, publisher will face the lose. Now, both can do contract with each other. At this contract, after six month, book retailer has to buy 2000 book copies from same publisher of current price of Rs. 100. This is the lock of price. Now, both can agree on this price due to different person has different risk of increasing or decreasing prices.  So, this type of contract will be future contract. Same contract can apply to other type products like milk production and sale. 

Following are the main feature of Future Contracts

1. Standardization

One of great feature of future contracts, there will be standardization of quantity and quality of asset. In this agreement, all the date and month of delivery will be fixed. Location of settlement will be fixed. There will be also exchange of such trade. For example, Board of Trade India.

2. Clearing House

Clearing house is middleman between two parties of contract. It gives guarantee of payment and delivery of each asset.

3. Settlement Price

Future contract's asset is performed also in the exchange. Settlement price is profit or loss on each contract for that day.

4. Daily Settlement and Margin

Everyone can come in doing of future contract. For this, he has to deposit advance security to the broker.

5. Cash Settlement 

It is the feature of future contract. If price of asset is different from agreed price, then one party has to pay to other party that is called cash settlement.

6. Delivery

On the expiry of future contract, one party will also deliver the asset to other party.

Related : Financial Derivatives 


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Accounting Education: Future Contract
Future Contract
Accounting Education
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