Let’s say you want to invest, but you aren’t comfortable with stocks, or are looking to diversify your portfolio. No one would blame you. On one hand, learning the ins and outs of each stock before you invest can be difficult. On the other hand, having a diversified portfolio is always a smart idea. One great way to diversify your portfolio and to expand your horizons beyond stocks is to invest in “futures.”
So, what are futures and how do they work? Futures generally involve the purchase of commodities, which can be anything from corn to oil. This type of product is considered a commodity because the goods bought are largely interchangeable. An ear of corn, after all, is an ear of corn.
Futures allow you to buy a commodity now at a prearranged price but the commodity itself won’t be delivered until a specified date in the future. For example, you could buy 1,000 barrels of oil but specify that the delivery date won’t be for another 6 months. If oil prices are low right now, you should be able to buy the oil quite cheaply.
If oil prices rise over the next few months, you will produce a profit because you secured the oil earlier at a cheaper price. Most of the time, people who buy futures do not actually take delivery of the oil itself, so you won’t have to worry about 1,000 barrels of oil being dropped off on your doorstep. Instead, you will settle the difference with the seller.
So let’s say you bought a contract to secure 1,000 gallons of oil at $100 dollars with a delivery date 6 months from now. Over the next 6 months, oil prices rise and reach $125 dollars. You could then settle and take the $25 dollar profit per barrel, which would amount to $25,000 dollars. On the other hand, if prices drop to say $75 dollars, you’d have to pay the seller the difference.
Either way, some people prefer to invest in futures because they prefer analyzing commodity markets to stocks. So if you are looking for an alternative to investing in stocks and bonds, consider futures!