RELATIONSHIP BETWEEN FUTURE

CONTRACTS AND PHYSICAL SUPPLY

MADE BY:

GAARGI TOMAR
MADHU VISHNOI
AKASH RAJOURIA
NIKHIL VERMA
AASHI SAXENA
 What is Futures contract?
 An energy futures contract is a legally binding agreement for delivery of crude,
unleaded gas, heating oil or natural gas in the future at an agreed upon price.
 Futures contracts are exchange-traded standardized contracts. The terms of a
futures contract – including delivery places and dates, volume, technical
specifications, and credit procedures – are standardized for each type of contract
and participants are restricted to trading only the products the exchange offers.
 Futures can be used to hedge against risk or speculate the prices
 ADVANTAGES OF FUTURES
CONTRACT
 Because they trade at a centralized exchange, futures contracts offer more financial leverage,
flexibility and financial integrity than trading the commodities themselves.
 Hedging :Hedgers are those producers of commodity (e.g. an oil company, a farmer or a mining
company) who comes to a futures exchange in order to manage the price risk of their underlying
business, assets or holdings.
 Low Execution Cost :To own a futures contract, an investor only has to put up a small fraction of the
value of the contract (usually around 10%) as margin. The margin required to hold a futures contract is
therefore small and if he has predicted the market movement correctly, he receives huge profits.
 Liquidity :Because there are huge amounts of contracts traded every single day, there is a great
chance for the market orders being placed very quickly. For this reason, it is uncommon for the prices
to leap a jump onto a completely new level hence the trading in futures contracts are very liquid.
What Is Exchange of Futures for
Physical?
 An exchange of futures for physical (EFP) is a private agreement
between two parties to trade a futures position for the basket of
underlying actuals. An exchange of futures for physicals can be
used to open a futures position, close a futures position, or switch a
futures position for the underlying asset.
 An exchange of futures for physical (EFP) allows for one party to
swap a futures contract for the actual underlying asset.
 EFPs are traded over-the-counter (OTC) and are often used by
commodities producers to hedge positions or regulate production.
 EFPs are especially useful when a large transaction takes place so
the market price is not artificially altered by a non- Speculative
Trade
Advantages of Exchange of Futures for
Physical
 The obvious question is why not just do the transaction through the market?
The answer is simply for the sake of efficiency. Large transactions impact the
market as they are executed. This is why large traders sometimes break up
transaction over time to reduce the impact of slippage. Doing the exchange for
futures outside the market pricing mechanism allows large, offsetting transactions
to take place at a decided price. EFP is also used when the market depth is not
able to absorb the transaction—for example, a transaction involving thousands of
contracts.
RELATIONSHIP BETWEEN FUTURE
CONTRACTS AND PHYSICAL SUPPLY
 The ICE Brent Crude futures contract is cash settled with an option of delivery through Exchange
for Physicals (EFP). The trading takes place through an electronic exchange which matches bids
and offers between anonymous parties.
 Exchange of futures for physical (EFP) is one of a few types of privately negotiated agreements
that can then be registered with the exchange. The volume involved in the transaction is shown
in the days’ trading when the transaction is registered, but the price at which the transaction
was completed (the privately agreed upon price between the parties) is not revealed.
 When two parties have agreed to an exchange of futures for physicals, they then register the
transaction with the relevant exchange. Exchange of futures for physical is also referred to as
exchange of futures for product and exchange of futures for cash (as in cash commodity). The
term exchange of futures for physical is generally used to describe transactions of this nature
even when the underlying are financial products rather than cash commodities. Exchange of
futures for swap (EFS) can be used if the futures position is being traded for a swap contract.
 Although the Brent futures contract is not physically settled, the Exchange for
Physicals (EFPs) market allows participants to swap a futures position (a financial
position) with a physical one.
 EFPs are carried outside the exchange and at a price agreed between the
parties. The way the EFP works is straightforward. Party A with a futures position
sells the futures contract and buys the physical commodity. His counterparty B
buys the futures position from A and sells the physical commodity to A. Through
this process, A is able to gain physical exposure to the underlying commodity
while B has swapped his physical exposure for a financial one. Such trades can
be transacted at any prices agreed between A and B and are often different
from the price prevailing in the futures market. EFPs are often quoted as
differentials to the Brent futures price but usually do not exceed it by more than a
few cents.
 Parties need to notify the Exchange about their agreement so it can close A‟s
position and open B‟s position. Thus, the importance of EFP is that it provides a link
between the futures market and the physical dimension of the Brent market.