A private, customized agreement to buy or sell something at a set price on a future date, without exchange standardization or clearing.
Forwards came first; futures are the standardized, cleared, anonymous version. A forward can specify any quantity, grade, location and date, which makes it a better hedge for a specific business — and leaves both sides carrying each other's credit risk.
Futures replace that credit risk with a clearing-house and daily variation-margin. That is the entire trade-off: flexibility versus safety and liquidity.
Example: a chocolate maker agrees with a co-operative to buy 300 tonnes of a specific cocoa origin next August at a fixed price. No exchange, no margin, no way out except renegotiation.
Original diagrams for the ideas on this page. Illustrative, not real market data.
Margin and leverage. A $5,000 deposit can control a $100,000 position, which is 20:1 leverage. Because the loss is measured on the full $100,000, a 2.5% move against you halves the deposit and brings a margin call, and a 5% move uses all of it.
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