MAIN IDEA: What do you need to know to understand the futures prices quoted by commodity exchanges such as the Chicago Board of Trade, Chicago Mercantile Exchange, Kansas City Board of Trade, Minneapolis Grain Exchange and New York Board of Trade?

An Iowa farmer hears a report that says, "May corn futures are up 3 cents today, at $2.42." He takes a truckload to the local elevator and finds that the price there is only $2.31. The same day an Ohio farmer hears the same report on May corn futures, but the price at his local elevator is $2.38. The same day, a grain exporter is trying to finish loading a grain ship at a U.S. Gulf port, but the best price he can get is $2.48, three cents higher than the day before.

The point: Futures prices are not the same as cash prices, but there is an important relationship between the two. The following will help you to understand the difference and why it is important.

A FUTURES PRICE is the price of a CONTRACT between two people for a specific amount of a standardized grade of a commodity to be exchanged on a set date, sometime in the future.

For example, specifications for the CBT corn futures contract include:

• Trading Unit: 5,000 bushels
• Deliverable Grades: No. 2 Yellow at par and substitutions at differentials established by the exchange
• Price Quote: Cents and quarter-cents/bushel
• Tick Size: 1/4 cent/bushel ($12.50/contract)
• Daily Price Limit: 12 cents/bushel ($600/contract) above or below the previous day's settlement price (expandable to 18 cents/bu). No limit in the spot month (limits are lifted two business days before the spot month begins).
• Contract Months: Dec, Mar, May, Jul, Sep
• Last Trading Day: Seventh business day preceding the last business day of the delivery month
• Last Delivery Day: Last business day of the delivery month
• Trading Hours: 9:30 a.m. - 1:15 p.m. Chicago time (CST), Mon-Fri. Trading in expiring contracts closes at noon on the last trading day.

• The buyer agrees to take delivery of the commodity at the agreed upon price during the delivery month.
• The seller agrees to make delivery of the commodity at the agreed upon price during the delivery month.

• A person who has bought a long position can offset that position by selling on the short side of a contract. If the price has gone up, the long trader earns a profit. If the price has gone down, the long position has lost money.
• A person who sold under the short side of a contract can offset that by buying the long side of a contract. If the price has gone up, the short trader loses money. If the price has gone down, the trader earns a profit.

In addition, the "tick size" at 1/4 cent per bushel means that is the minimum amount that price quotes can change. Corn prices can be quoted at $2.51 1/2 and $2.51 3/4, but not at $2.51 5/8 or $2.51 7/16. However, if you look at a quote screen, you will see that the last digit of a grain contract is always 0, 2, 4 or 6. Even though grain futures' tick size is 1/4 cents, it is traditionally quoted in 1/8ths. So December corn at 2514 on a quote screen reads 2.51 1/2 (because 4/8=1/2). 2510 would read 2.51, 2512 would be 2.51 1/4, and 2516 would be 2.51 3/4. Traders must use these 1/4-cent increments when they buy or sell futures in exchange trading pits.

A futures price is a REAL PRICE because a buyer and a seller have reached an agreement to do business at that price. A business transaction has occurred. This price is much more meaningful than price projection, a forecast, or even a price posted by an elevator operator, which may be at a level at which no one has yet agreed to sell. It may take a higher price before it becomes real.

Each futures price represents a transaction at a given point in time between a buyer and a seller. Buyers and sellers continue to reach new agreements at different prices during the trading day. Each new price represents the market's most current best estimate of the value of the contract.

Although these prices are the market's best opinion of the value of the CONTRACT and indirectly the value of the commodity, they are not accurate predictions of what the cash market prices will be in the contract's delivery month. Prices are in constant flux as buyers and sellers reach new agreements.

THE STANDARDIZATION of grades, dates and locations facilitates trading. All buyers and sellers know the terms of the contract and trades are easily made. Each exchange monitors the trading activity for each contract throughout the trading day and makes public the prices that the contracts trade at. These are futures price quotes. Futures exchanges publish the range of prices as follows:

** DURING THE TRADING DAY

• OPEN -- first price of the day
• HIGH -- highest price so far
• LOW -- lowest price so far
• LAST -- price at which the contract has most recently traded
• CHANGE -- the difference between the last price and the settlement price for the previous trading day.

• OPEN -- first price of the day
• HIGH -- highest price of the day
• LOW -- lowest price of the day
• CLOSE -- the price of the last trade of the day, or sometimes a range of several trades concluded as trading ends.
• CHANGE -- the difference between the closing or settlement price and the settlement price for the previous trading day.

THE CONTRACT MONTH for which a price is quoted is another important feature of futures contracts. Each contract has the name of a month associated with a price. The month is when the delivery date will occur. During the delivery month:

• The person who still holds the short side of a contract is obligated to deliver the cash commodity called for in the contract. The price received for the commodity will be the futures price at which the contract sale was made.

• The person who still holds the long side of a contract is obligated to take delivery of the cash commodity called for in the contract. The price paid for the commodity will be the futures price at which the contract purchase was made.

Often you may see the same month appear twice in a price quote report. The first one is for the marketing current year and the second one is next year.

EXERCISES:

Discuss your answers to the following questions in class, and/or write your answers in a report for your teacher.

1. Review futures price quote reports found on the Internet or your market information network for one or more commodities produced in your area. Select a contract month. What is the LAST price quoted? What does it tell you?

2. Find a table showing futures quotes for a crop or class of livestock important in your area. Observe the months listed. Note the differences in price levels for each month. Explain why you may see some months listed twice -- and with different prices.

3. Keep a record of the closing price for the commodity you selected in Exercise #2 for three weeks, or a period of time suggested by your teacher. Plot the prices on graph or chart paper. Note how much prices vary from day to day. Explain why some days varied more than others.

INTERNET RESOURCES:

** Chicago Mercantile Exchange (CME) home page
Chicago Mercantile Exchange (CME)

** Chicago Board of Trade - Home Page
http://www.cbot.com/cbot/www/main/0,1394,,00.html

** Kansas City Board of Trade
http://www.kcbt.com/

** Minneapolis Grain Exchange
http://www.mgex.com/

** New York Board of Trade
http://www.nybot.com/

TEST:

1. The standardization of grades, dates and locations makes futures trading easier. TRUE or FALSE?

2. Futures prices are accurate predictions of the what the cash price will be during the month for which the futures prices are quoted. TRUE or FALSE?

3. Futures prices:
A. Are arrived at in public auction trading
B. Are quoted for one unit of the commodity
C. Change throughout the trading day
D. All of the above

4. Futures prices are __________ prices because a business transaction has occurred.

5. Futures prices are the price of a __________ between two people.

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Copyright © 2001 Stewart-Peterson, Inc. All Rights Reserved. RF/nc 105160
END STUDENT SECTION

TEACHER'S GUIDE

PREPARATION: Review lesson reference and futures price reports for crops and classes of livestock important in your area. Be ready to answer student questions and help them find additional information about futures contracts. Review the websites listed under Internet Resources.

INTERNET RESOURCES:

** Chicago Mercantile Exchange (CME) home page
Chicago Mercantile Exchange (CME)

** Chicago Board of Trade - Home Page
http://www.cbot.com/cbot/www/main/0,1394,,00.html

** Kansas City Board of Trade
http://www.kcbt.com/

** Minneapolis Grain Exchange
http://www.mgex.com/

** New York Board of Trade
http://www.nybot.com/

IMPORTANT TERMS: change, close, delivery, futures, high, last, low, open, price limit, settlement, spot month, tick, quote.

EXTENSION: Ask a commodity broker to visit your class, or take a class trip to a brokerage office or one of the futures exchanges.

EXERCISE ANSWERS:

1. The LAST price is just what it says, the last price at which a buyer and seller have agreed to trade one or more contracts. Those contracts call for delivery of the commodity during the month of the contract.

The LAST is a price quoted during trading hours. After trading hours, the market first reports a closing range, which may or may not be reported by your service. After a short time following the close, often just a few minutes, the exchange will report a settlement price within that range.

On some quote services you may see a * appear with the LAST price. This indicates that it is the close or settlement price.

2. When a month appears two or more times on a price table, they represent contracts for delivery in different years. For example, in late fall when a corn crop is being harvested, futures traders may begin pricing corn for the next year. Thus the Chicago Board of Trade will have a December contract for the current crop and another for the next year's crop at the same time.

3. Depending upon the season and time of year, you may see some frequent changes in prices. Changes in crop conditions or export sales can cause markets to move more on days when such news is expected. Market comments found on some networks or web pages often provide reasons for such market activity.

TEST KEY:

1. The standardization of grades, dates and locations makes futures trading easier. TRUE or FALSE?

TRUE.

2. Futures prices are accurate predictions of the what the cash price will be during the month for which the futures prices are quoted. TRUE or FALSE?

FALSE. While the futures price is a price that has been paid for delivery of a commodity at a future date, it cannot be considered a "forecast" of prices for that period. Futures traders will change their minds frequently before a contract expires. Those who sold at that price will buy back their positions, while those who bought will sell.

3. Futures prices:
A. Are arrived at in public auction trading
B. Are quoted for one unit of the commodity
C. Change throughout the trading day
D. All of the above

Correct answer: D. All of the above

4. Futures prices are real prices because a business transaction has occurred.

5. Futures prices are the price of a contract between two people.
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Copyright © 2001 Stewart-Peterson, Inc. All Rights Reserved. RF/nc 105160

END TEACHER'S GUIDE