A commodity futures contract (i.e. a "futures contract," "commodity futures," or "futures") is a legally binding agreement between two parties to buy or sell a specific quantity of a commodity at a negotiated price at a specific date in the future.

What Is an Option on a Commodity Futures Contract?

Typically, a buyer pays a market-determined price (called a "premium") for an option on a commodity futures contract. If a buyer exercises his option within a specific time period, then he will be deemed to have entered into the futures contract at the agreed-upon price stated in the option.

What Products Are Commodity Futures Contracts Typically Used For?

Futures contracts and options on futures contracts exist for a wide range of products, including:

  • Agricultural products: coffee, soybeans, wheat
  • Livestock: pork bellies, cattle
  • Natural Resources: oil, gas
  • Precious Metals: gold, silver, platinum
  • Financial Instruments: stocks, bonds
  • Currencies: British pound, Japanese yen

Can I Trade Futures Contracts or Options on Futures?

Futures and options are usually traded on a futures exchange by commodities brokers. Generally, individuals may trade them in two ways -- through an individual account or by participating in a "commodity pool." In your individual account, trading is done only for you by a commodities broker. In a commodity pool, you are purchasing shares or interests in the pool. The commodities broker executes trades for the pool as a whole, rather than for each individual in the pool. Pool participants share in gains or losses.

Who Regulates the Commodity Futures and Options Business?

There are two organizations responsible for regulating the commodity futures and options business:

  • Commodity Futures Trading Commission (CFTC): The CFTC regulates commodity futures and options at the federal level. It is responsible for protecting customers who use these markets and monitoring such markets to prevent commodity price distortions and market manipulations. Futures contracts may only be bought and sold on exchanges licensed by the CFTC.
  • National Futures Association (NFA): The NFA is the industry's congressionally authorized self-regulator. It complements federal regulation with extensive rules and regulations governing the conduct of their members: floor brokers, floor traders, and member firms. Firms and individuals who wish to handle customer funds for the purpose of buying or selling futures or options on futures, must apply for registration and membership with the NFA. The same holds true for those firms and individuals who wish to engage in the business of offering futures trading advice.

Disclosures Before Opening a Futures Account

Because trading in futures and options is a risky business appropriate only for certain businesses and individuals, the CFTC requires that a broker provide you with a document describing the risks involved in entering into futures and option contracts. The document provides you with an opportunity to carefully consider whether futures and options are appropriate for you in light of your experience, objectives, financial resources, and other circumstances. The broker must receive a signed and dated acknowledgment from you that you have received a disclosure document before he or she can accept any funds, securities, or property from you.

Do I Need An Attorney?

If a dispute arises out of your commodity futures or option account, it may possibly entail illegal activities by your broker such as unauthorized trading of your account, misrepresentation, nondisclosure, violations of fiduciary duty, or misappropriation (i.e. illegally taking) of funds. Some of your options include filing a complaint with the CFTC Reparations program, industry-sponsored arbitration, or court litigation. Although an attorney is technically only required for court litigation, seeking the advice of an experienced securities attorney is essential if you wish to fully protect your rights and have a greater chance of success.