A futures contract is a standardized agreement to buy or sell a specific quantity of a commodity at a predetermined price on a future date. In precious metals, futures contracts are the primary tool for price discovery.
How They Work
1. A buyer and seller agree on a price for delivery at a future date 2. Both parties post margin (a deposit) to guarantee the contract 3. At expiration, the contract is either settled in cash or through physical delivery
Futures vs. Physical
| Feature | Futures | Physical |
|---|---|---|
| **Ownership** | Contract/paper | Tangible metal |
| **Counterparty Risk** | Yes | None |
| **Leverage** | Yes (margin trading) | No |
| **Storage** | Not applicable | Required |
| **Expiration** | Yes | No |
Contango and Backwardation
- Contango: Futures price > Spot price (normal market condition reflecting storage/interest costs)
- Backwardation: Futures price < Spot price (unusual, often signals strong physical demand)
For Physical Metal Buyers
Futures prices serve as a reference, but physical metal prices include premiums above the futures/spot price. Physical ownership eliminates the counterparty risks inherent in futures trading.