In finance, a futures contract is a standardized contract between two parties to buy or sell a

specified asset (eg.oranges, oil, gold) of standardized quantity and quality at a specified future
date at a price agreed today (the futures price). The contracts are traded on a futures exchange.
Futures contracts are not "direct" securities like stocks, bonds, rights or warrants. They are still
securities, however, though they are a type of derivative contract. The party agreeing to buy the
underlying asset in the future assumes a long position, and the party agreeing to sell the asset in
the future assumes a short position.

The price is determined by the instantaneous equilibrium between the forces of supply and
demand among competing buy and sell orders on the exchange at the time of the purchase or sale
of the contract.

In many cases, the underlying asset to a futures contract may not be traditional "commodities" at
all – that is, for financial futures, the underlying asset or item can be currencies, securities or
financial instruments and intangible assets or referenced items such as stock indexes and interest
rates.

The future date is called the delivery date or final settlement date. The official price of the
futures contract at the end of a day's trading session on the exchange is called the settlement
price for that day of business on the exchange[1].

A closely related contract is a forward contract; they differ in certain respects. Future contracts
are very similar to forward contracts, except they are exchange-traded and defined on
standardized assets.[2] Unlike forwards, futures typically have interim partial settlements or "true-
ups" in margin requirements. For typical forwards, the net gain or loss accrued over the life of
the contract is realized on the delivery date.

A futures contract gives the holder the obligation to make or take delivery under the terms of the
contract, whereas an option grants the buyer the right, but not the obligation, to establish a
position previously held by the seller of the option. In other words, the owner of an options
contract may exercise the contract, but both parties of a "futures contract" must fulfill the
contract on the settlement date. The seller delivers the underlying asset to the buyer, or, if it is a
cash-settled futures contract, then cash is transferred from the futures trader who sustained a loss
to the one who made a profit. To exit the commitment prior to the settlement date, the holder of a
futures position has to offset his/her position by either selling a long position or buying back
(covering) a short position, effectively closing out the futures position and its contract
obligations.

Futures contracts, or simply futures, (but not future or future contract) are exchange-traded
derivatives. The exchange's clearing house acts as counterparty on all contracts, sets margin
requirements, and crucially also provides a mechanism for settlement.[3]

Contents
[hide]
  1 Origin
 2 Standardization
 3 Margin
 4 Settlement - physical versus cash-settled futures
 5 Pricing
o 5.1 Arbitrage arguments
o 5.2 Pricing via expectation
o 5.3 Relationship between arbitrage arguments and expectation
o 5.4 Contango and backwardation
 6 Futures contracts and exchanges
o 6.1 Codes
 7 Who trades futures?
 8 Options on futures
 9 Futures contract regulations
 10 Definition of futures contract
 11 Nonconvergence
 12 Futures versus forwards
o 12.1 Exchange versus OTC
o 12.2 Margining
 13 See also
 14 Notes
 15 References
 16 U.S. Futures exchanges and regulators
 17 External links

[edit] Origin
Aristotle described the story of Thales, a poor philosopher from Miletus who developed a
"financial device, which involves a principle of universal application". Thales used his skill in
forecasting and predicted that the olive harvest would be exceptionally good the next autumn.
Confident in his prediction, he made agreements with local olive press owners to deposit his
money with them to guarantee him exclusive use of their olive presses when the harvest was
ready. Thales successfully negotiated low prices because the harvest was in the future and no one
knew whether the harvest would be plentiful or poor and because the olive press owners were
willing to hedge against the possibility of a poor yield. When the harvest time came, and many
presses were wanted concurrently and suddenly, he let them out at any rate he pleased, and made
a large quantity of money.[4]

The first futures exchange market was the Dōjima Rice Exchange in Japan in the 1730s, to meet
the needs of samurai who – being paid in rice, and after a series of bad harvests – needed a stable
conversion to coin.[5]
The Chicago Board of Trade (CBOT) listed the first ever standardized 'exchange traded' forward
contracts in 1864, which were called futures contracts. This contract was based on grain trading
and started a trend that saw contracts created on a number of different commodities as well as a
number of futures exchanges set up in countries around the world.[6] By 1875 cotton futures were
being traded in Mumbai in India and within a few years this had expanded to futures on edible
oilseeds complex, raw jute and jute goods and bullion.[7]

[edit] Standardization
Futures contracts ensure their liquidity by being highly standardized, usually by specifying:

 The underlying asset or instrument. This could be anything from a barrel of crude oil to a
short term interest rate.
 The type of settlement, either cash settlement or physical settlement.
 The amount and units of the underlying asset per contract. This can be the notional
amount of bonds, a fixed number of barrels of oil, units of foreign currency, the notional
amount of the deposit over which the short term interest rate is traded, etc.
 The currency in which the futures contract is quoted.
 The grade of the deliverable. In the case of bonds, this specifies which bonds can be
delivered. In the case of physical commodities, this specifies not only the quality of the
underlying goods but also the manner and location of delivery. For example, the
NYMEX Light Sweet Crude Oil contract specifies the acceptable sulphur content and
API specific gravity, as well as the pricing point -- the location where delivery must be
made.
 The delivery month.
 The last trading date.
 Other details such as the commodity tick, the minimum permissible price fluctuation.

[edit] Margin
To minimize credit risk to the exchange, traders must post a margin or a performance bond,
typically 5%-15% of the contract's value.

To minimize counterparty risk to traders, trades executed on regulated futures exchanges are
guaranteed by a clearing house. The clearing house becomes the buyer to each seller, and the
seller to each buyer, so that in the event of a counterparty default the clearer assumes the risk of
loss. This enables traders to transact without performing due diligence on their counterparty.

Margin requirements are waived or reduced in some cases for hedgers who have physical
ownership of the covered commodity or spread traders who have offsetting contracts balancing
the position.

Clearing margin are financial safeguards to ensure that companies or corporations perform on
their customers' open futures and options contracts. Clearing margins are distinct from customer
margins that individual buyers and sellers of futures and options contracts are required to deposit
with brokers.

Customer margin Within the futures industry, financial guarantees required of both buyers and
sellers of futures contracts and sellers of options contracts to ensure fulfillment of contract
obligations. Futures Commission Merchants are responsible for overseeing customer margin
accounts. Margins are determined on the basis of market risk and contract value. Also referred to
as performance bond margin.

Initial margin is the equity required to initiate a futures position. This is a type of performance
bond. The maximum exposure is not limited to the amount of the initial margin, however the
initial margin requirement is calculated based on the maximum estimated change in contract
value within a trading day. Initial margin is set by the exchange.
If a position involves an exchange-traded product, the amount or percentage of initial margin is
set by the exchange concerned.

In case of loss or if the value of the initial margin is being eroded, the broker will make a margin
call in order to restore the amount of initial margin available. Often referred to as “variation
margin”, margin called for this reason is usually done on a daily basis, however, in times of high
volatility a broker can make a margin call or calls intra-day.

Calls for margin are usually expected to be paid and received on the same day. If not, the broker
has the right to close sufficient positions to meet the amount called by way of margin. After the
position is closed-out the client is liable for any resulting deficit in the client’s account.

Some U.S. exchanges also use the term “maintenance margin”, which in effect defines by how
much the value of the initial margin can reduce before a margin call is made. However, most
non-US brokers only use the term “initial margin” and “variation margin”.

The Initial Margin requirement is established by the Futures exchange, in contrast to other
securities Initial Margin (which is set by the Federal Reserve in the U.S. Markets).

A futures account is marked to market daily. If the margin drops below the margin maintenance
requirement established by the exchange listing the futures, a margin call will be issued to bring
the account back up to the required level.

Maintenance margin A set minimum margin per outstanding futures contract that a customer
must maintain in his margin account.

Margin-equity ratio is a term used by speculators, representing the amount of their trading
capital that is being held as margin at any particular time. The low margin requirements of
futures results in substantial leverage of the investment. However, the exchanges require a
minimum amount that varies depending on the contract and the trader. The broker may set the
requirement higher, but may not set it lower. A trader, of course, can set it above that, if he
doesn't want to be subject to margin calls.

Performance bond margin The amount of money deposited by both a buyer and seller of a
futures contract or an options seller to ensure performance of the term of the contract. Margin in
commodities is not a payment of equity or down payment on the commodity itself, but rather it is
a security deposit.

Return on margin (ROM) is often used to judge performance because it represents the gain or
loss compared to the exchange’s perceived risk as reflected in required margin. ROM may be
calculated (realized return) / (initial margin). The Annualized ROM is equal to (ROM+1)
(year/trade_duration)
-1. For example if a trader earns 10% on margin in two months, that would be about
77% annualized.

[edit] Settlement - physical versus cash-settled futures

Settlement is the act of consummating the contract, and can be done in one of two ways, as
specified per type of futures contract:

 Physical delivery - the amount specified of the underlying asset of the contract is
delivered by the seller of the contract to the exchange, and by the exchange to the buyers
of the contract. Physical delivery is common with commodities and bonds. In practice, it
occurs only on a minority of contracts. Most are cancelled out by purchasing a covering
position - that is, buying a contract to cancel out an earlier sale (covering a short), or
selling a contract to liquidate an earlier purchase (covering a long). The Nymex crude
futures contract uses this method of settlement upon expiration
 Cash settlement - a cash payment is made based on the underlying reference rate, such
as a short term interest rate index such as Euribor, or the closing value of a stock market
index. The parties settle by paying/receiving the loss/gain related to the contract in cash
when the contract expires.[8] Cash settled futures are those that, as a practical matter,
could not be settled by delivery of the referenced item - i.e. how would one deliver an
index? A futures contract might also opt to settle against an index based on trade in a
related spot market. Ice Brent futures use this method.

Expiry (or Expiration in the U.S.) is the time and the day that a particular delivery month of a
futures contract stops trading, as well as the final settlement price for that contract. For many
equity index and interest rate futures contracts (as well as for most equity options), this happens
on the third Friday of certain trading months. On this day the t+1 futures contract becomes the t
futures contract. For example, for most CME and CBOT contracts, at the expiration of the
December contract, the March futures become the nearest contract. This is an exciting time for
arbitrage desks, which try to make quick profits during the short period (perhaps 30 minutes)
during which the underlying cash price and the futures price sometimes struggle to converge. At
this moment the futures and the underlying assets are extremely liquid and any disparity between
an index and an underlying asset is quickly traded by arbitrageurs. At this moment also, the
increase in volume is caused by traders rolling over positions to the next contract or, in the case
of equity index futures, purchasing underlying components of those indexes to hedge against
current index positions. On the expiry date, a European equity arbitrage trading desk in London
or Frankfurt will see positions expire in as many as eight major markets almost every half an
hour.

[edit] Pricing
When the deliverable asset exists in plentiful supply, or may be freely created, then the price of a
futures contract is determined via arbitrage arguments. This is typical for stock index futures,
treasury bond futures, and futures on physical commodities when they are in supply (e.g.
agricultural crops after the harvest). However, when the deliverable commodity is not in plentiful
supply or when it does not yet exist - for example on crops before the harvest or on Eurodollar
Futures or Federal funds rate futures (in which the supposed underlying instrument is to be
created upon the delivery date) - the futures price cannot be fixed by arbitrage. In this scenario
there is only one force setting the price, which is simple supply and demand for the asset in the
future, as expressed by supply and demand for the futures contract.
[edit] Arbitrage arguments

Arbitrage arguments ("Rational pricing") apply when the deliverable asset exists in plentiful
supply, or may be freely created. Here, the forward price represents the expected future value of
the underlying discounted at the risk free rate—as any deviation from the theoretical price will
afford investors a riskless profit opportunity and should be arbitraged away.

Thus, for a simple, non-dividend paying asset, the value of the future/forward, F(t), will be found
by compounding the present value S(t) at time t to maturity T by the rate of risk-free return r.

or, with continuous compounding

This relationship may be modified for storage costs, dividends, dividend yields, and convenience
yields.

In a perfect market the relationship between futures and spot prices depends only on the above
variables; in practice there are various market imperfections (transaction costs, differential
borrowing and lending rates, restrictions on short selling) that prevent complete arbitrage. Thus,
the futures price in fact varies within arbitrage boundaries around the theoretical price.

[edit] Pricing via expectation

When the deliverable commodity is not in plentiful supply (or when it does not yet exist) rational
pricing cannot be applied, as the arbitrage mechanism is not applicable. Here the price of the
futures is determined by today's supply and demand for the underlying asset in the futures.

In a deep and liquid market, supply and demand would be expected to balance out at a price
which represents an unbiased expectation of the future price of the actual asset and so be given
by the simple relationship.

By contrast, in a shallow and illiquid market, or in a market in which large quantities of the
deliverable asset have been deliberately withheld from market participants (an illegal action
known as cornering the market), the market clearing price for the futures may still represent the
balance between supply and demand but the relationship between this price and the expected
future price of the asset can break down.

[edit] Relationship between arbitrage arguments and expectation

The expectation based relationship will also hold in a no-arbitrage setting when we take
expectations with respect to the risk-neutral probability. In other words: a futures price is
martingale with respect to the risk-neutral probability. With this pricing rule, a speculator is
expected to break even when the futures market fairly prices the deliverable commodity.

[edit] Contango and backwardation

The situation where the price of a commodity for future delivery is higher than the spot price, or
where a far future delivery price is higher than a nearer future delivery, is known as contango.
The reverse, where the price of a commodity for future delivery is lower than the spot price, or
where a far future delivery price is lower than a nearer future delivery, is known as
backwardation.

[edit] Futures contracts and exchanges

Contracts

There are many different kinds of futures contracts, reflecting the many different kinds of
"tradable" assets about which the contract may be based such as commodities, securities (such as
single-stock futures), currencies or intangibles such as interest rates and indexes. For information
on futures markets in specific underlying commodity markets, follow the links. For a list of
tradable commodities futures contracts, see List of traded commodities. See also the futures
exchange article.

 Foreign exchange market

 Money market
 Bond market
 Equity market
 Soft Commodities market

Trading on commodities began in Japan in the 18th century with the trading of rice and silk, and
similarly in Holland with tulip bulbs. Trading in the US began in the mid 19th century, when
central grain markets were established and a marketplace was created for farmers to bring their
commodities and sell them either for immediate delivery (also called spot or cash market) or for
forward delivery. These forward contracts were private contracts between buyers and sellers and
became the forerunner to today's exchange-traded futures contracts. Although contract trading
began with traditional commodities such as grains, meat and livestock, exchange trading has
expanded to include metals, energy, currency and currency indexes, equities and equity indexes,
government interest rates and private interest rates.

Exchanges

Contracts on financial instruments were introduced in the 1970s by the Chicago Mercantile
Exchange (CME) and these instruments became hugely successful and quickly overtook
commodities futures in terms of trading volume and global accessibility to the markets. This
innovation led to the introduction of many new futures exchanges worldwide, such as the
London International Financial Futures Exchange in 1982 (now Euronext.liffe), Deutsche
Terminbörse (now Eurex) and the Tokyo Commodity Exchange (TOCOM). Today, there are
more than 90 futures and futures options exchanges worldwide trading to include: [9]

 CME Group (formerly CBOT and CME) -- Currencies, Various Interest Rate derivatives
(including US Bonds); Agricultural (Corn, Soybeans, Soy Products, Wheat, Pork, Cattle,
Butter, Milk); Index (Dow Jones Industrial Average); Metals (Gold, Silver), Index
(NASDAQ, S&P, etc.)
 IntercontinentalExchange (ICE Futures Europe) - formerly the International Petroleum
Exchange trades energy including crude oil, heating oil, natural gas and unleaded gas
 NYSE Euronext - which absorbed Euronext into which London International Financial
Futures and Options Exchange or LIFFE (pronounced 'LIFE') was merged. (LIFFE had
taken over London Commodities Exchange ("LCE") in 1996)- softs: grains and meats.
Inactive market in Baltic Exchange shipping. Index futures include EURIBOR, FTSE
100, CAC 40, AEX index.
 South African Futures Exchange - SAFEX
 Sydney Futures Exchange
 Tokyo Stock Exchange TSE (JGB Futures, TOPIX Futures)
 Tokyo Commodity Exchange TOCOM
 Tokyo Financial Exchange - TFX - (Euroyen Futures, OverNight CallRate Futures,
SpotNext RepoRate Futures)
 Osaka Securities Exchange OSE (Nikkei Futures, RNP Futures)
 London Metal Exchange - metals: copper, aluminium, lead, zinc, nickel, tin and steel
 IntercontinentalExchange (ICE Futures U.S.) - formerly New York Board of Trade -
softs: cocoa, coffee, cotton, orange juice, sugar
 New York Mercantile Exchange CME Group- energy and metals: crude oil, gasoline,
heating oil, natural gas, coal, propane, gold, silver, platinum, copper, aluminum and
palladium
 Dubai Mercantile Exchange
 Korea Exchange - KRX
 Singapore Exchange - SGX - into which merged Singapore International Monetary
Exchange (SIMEX)
 ROFEX - Rosario (Argentina) Futures Exchange

[edit] Codes

Most Futures contracts codes are four characters. The first two characters identify the contract
type, the third character identifies the month and the last character is the last digit of the year.

Third (month) futures contract codes are

 January = F
 February = G
 March = H
  April = J
 May = K
 June = M
 July = N
 August = Q
 September = U
 October = V
 November = X
 December = Z

Example: CLX0 is a Crude Oil (CL), November (X) 2010 (0) contract.

[edit] Who trades futures?

Futures traders are traditionally placed in one of two groups: hedgers, who have an interest in the
underlying asset (which could include an intangible such as an index or interest rate) and are
seeking to hedge out the risk of price changes; and speculators, who seek to make a profit by
predicting market moves and opening a derivative contract related to the asset "on paper", while
they have no practical use for or intent to actually take or make delivery of the underlying asset.
In other words, the investor is seeking exposure to the asset in a long futures or the opposite
effect via a short futures contract.

Hedgers typically include producers and consumers of a commodity or the owner of an asset or
assets subject to certain influences such as an interest rate.

For example, in traditional commodity markets, farmers often sell futures contracts for the crops
and livestock they produce to guarantee a certain price, making it easier for them to plan.
Similarly, livestock producers often purchase futures to cover their feed costs, so that they can
plan on a fixed cost for feed. In modern (financial) markets, "producers" of interest rate swaps or
equity derivative products will use financial futures or equity index futures to reduce or remove
the risk on the swap.

An example that has both hedge and speculative notions involves a mutual fund or separately
managed account whose investment objective is to track the performance of a stock index such
as the S&P 500 stock index. The Portfolio manager often "equitizes" cash inflows in an easy and
cost effective manner by investing in (opening long) S&P 500 stock index futures. This gains the
portfolio exposure to the index which is consistent with the fund or account investment objective
without having to buy an appropriate proportion of each of the individual 500 stocks just yet.
This also preserves balanced diversification, maintains a higher degree of the percent of assets
invested in the market and helps reduce tracking error in the performance of the fund/account.
When it is economically feasible (an efficient amount of shares of every individual position
within the fund or account can be purchased), the portfolio manager can close the contract and
make purchases of each individual stock.
The social utility of futures markets is considered to be mainly in the transfer of risk, and
increased liquidity between traders with different risk and time preferences, from a hedger to a
speculator, for example.

[edit] Options on futures

In many cases, options are traded on futures, sometimes called simply "futures options". A put is
the option to sell a futures contract, and a call is the option to buy a futures contract. For both,
the option strike price is the specified futures price at which the future is traded if the option is
exercised. See the Black-Scholes model, which is the most popular method for pricing these
option contracts. Futures are often used since they are delta one instruments.

[edit] Futures contract regulations

All futures transactions in the United States are regulated by the Commodity Futures Trading
Commission (CFTC), an independent agency of the United States government. The Commission
has the right to hand out fines and other punishments for an individual or company who breaks
any rules. Although by law the commission regulates all transactions, each exchange can have its
own rule, and under contract can fine companies for different things or extend the fine that the
CFTC hands out.

The CFTC publishes weekly reports containing details of the open interest of market participants
for each market-segment that has more than 20 participants. These reports are released every
Friday (including data from the previous Tuesday) and contain data on open interest split by
reportable and non-reportable open interest as well as commercial and non-commercial open
interest. This type of report is referred to as the 'Commitments of Traders Report', COT-Report
or simply COTR.

[edit] Definition of futures contract

Following Björk[10] we give a definition of a futures contract. We describe a futures contract with
delivery of item J at the time T:

 There exists in the market a quoted price F(t,T), which is known as the futures price at
time t for delivery of J at time T.

 At time T, the holder pays F(T,T) and is entitled to receive J.

 During any time interval (s,t], the holder receives the amount F(t,T) − F(s,T).

 The spot price of obtaining the futures contract is equal to zero, for all time t such that t
< T.

[edit] Nonconvergence
 This section may contain original research. Please improve it by verifying the claims
made and adding references. Statements consisting only of original research may be
removed. More details may be available on the talk page. (April 2008)

Some exchanges tolerate 'nonconvergence', the failure of futures contracts and the value of the
physical commodities they represent to reach the same value on 'contract settlement' day at the
designated delivery points. An example of this is the CBOT (Chicago Board of Trade) Soft Red
Winter wheat (SRW) futures. SRW futures have settled more than 20¢ apart on settlement day
and as much as $1.00 difference between settlement days. Only a few participants holding CBOT
SRW futures contracts are qualified by the CBOT to make or receive delivery of commodities to
settle futures contracts. Therefore, it's impossible for almost any individual producer to 'hedge'
efficiently when relying on the final settlement of a futures contract for SRW. The trend is for
the CBOT to continue to restrict those entities that can actually participate in settling
commodities contracts to those that can ship or receive large quantities of railroad cars and
multiple barges at a few selected sites. The Commodity Futures Trading Commission, which has
oversight of the futures market in the United States, has made no comment as to why this trend is
allowed to continue since economic theory and CBOT publications maintain that convergence of
contracts with the price of the underlying commodity they represent is the basis of integrity for a
futures market. It follows that the function of 'price discovery', the ability of the markets to
discern the appropriate value of a commodity reflecting current conditions, is degraded in
relation to the discrepancy in price and the inability of producers to enforce contracts with the
commodities they represent.[11]

[edit] Futures versus forwards

While futures and forward contracts are both contracts to deliver an asset on a future date at a
prearranged price, they are different in two main respects:

 Futures are exchange-traded, while forwards are traded over-the-counter.

Thus futures are standardized and face an exchange, while forwards are customized
and face a non-exchange counterparty.

 Futures are margined, while forwards are not.

Thus futures have significantly less credit risk, and have different funding.

[edit] Exchange versus OTC

Futures are always traded on an exchange, whereas forwards always trade over-the-counter, or
can simply be a signed contract between two parties.

Thus:
  Futures are highly standardized, being exchange-traded, whereas forwards can be unique,
being over-the-counter.
 In the case of physical delivery, the forward contract specifies to whom to make the
delivery. The counterparty for delivery on a futures contract is chosen by the clearing
house.

[edit] Margining

For more details on Margin, see Margin (finance).

Futures are margined daily to the daily spot price of a forward with the same agreed-upon
delivery price and underlying asset (based on mark to market).

Forwards do not have a standard. They may transact only on the settlement date. More typical
would be for the parties to agree to true up, for example, every quarter. The fact that forwards are
not margined daily means that, due to movements in the price of the underlying asset, a large
differential can build up between the forward's delivery price and the settlement price, and in any
event, an unrealized gain (loss) can build up.

Again, this differs from futures which get 'trued-up' typically daily by a comparison of the
market value of the future to the collateral securing the contract to keep it in line with the
brokerage margin requirements. This true-ing up occurs by the "loss" party providing additional
collateral; so if the buyer of the contract incurs a drop in value, the shortfall or variation margin
would typically be shored up by the investor wiring or depositing additional cash in the
brokerage account.

In a forward though, the spread in exchange rates is not trued up regularly but, rather, it builds up
as unrealized gain (loss) depending on which side of the trade being discussed. This means that
entire unrealized gain (loss) becomes realized at the time of delivery (or as what typically occurs,
the time the contract is closed prior to expiration) - assuming the parties must transact at the
underlying currency's spot price to facilitate receipt/delivery.

The result is that forwards have higher credit risk than futures, and that funding is charged
differently.

In most cases involving institutional investors, the daily variation margin settlement guidelines
for futures call for actual money movement only above some insignificant amount to avoid
wiring back and forth small sums of cash. The threshold amount for daily futures variation
margin for institutional investors is often $1,000.

The situation for forwards, however, where no daily true-up takes place in turn creates credit
risk for forwards, but not so much for futures. Simply put, the risk of a forward contract is that
the supplier will be unable to deliver the referenced asset, or that the buyer will be unable to pay
for it on the delivery date or the date at which the opening party closes the contract.
The margining of futures eliminates much of this credit risk by forcing the holders to update
daily to the price of an equivalent forward purchased that day. This means that there will usually
be very little additional money due on the final day to settle the futures contract: only the final
day's gain or loss, not the gain or loss over the life of the contract.

In addition, the daily futures-settlement failure risk is borne by an exchange, rather than an
individual party, further limiting credit risk in futures.

Example: Consider a futures contract with a $100 price: Let's say that on day 50, a futures
contract with a $100 delivery price (on the same underlying asset as the future) costs $88. On
day 51, that futures contract costs $90. This means that the "mark-to-market" calculation would
require the holder of one side of the future to pay $2 on day 51 to track the changes of the
forward price ("post $2 of margin"). This money goes, via margin accounts, to the holder of the
other side of the future. That is, the loss party wires cash to the other party.

A forward-holder, however, may pay nothing until settlement on the final day, potentially
building up a large balance; this may be reflected in the mark by an allowance for credit risk. So,
except for tiny effects of convexity bias (due to earning or paying interest on margin), futures
and forwards with equal delivery prices result in the same total loss or gain, but holders of
futures experience that loss/gain in daily increments which track the forward's daily price
changes, while the forward's spot price converges to the settlement price. Thus, while under
mark to market accounting, for both assets the gain or loss accrues over the holding period; for a
futures this gain or loss is realized daily, while for a forward contract the gain or loss remains
unrealized until expiry.

Note that, due to the path dependence of funding, a futures contract is not, strictly speaking, a
European derivative: the total gain or loss of the trade depends not only on the value of the
underlying asset at expiry, but also on the path of prices on the way. This difference is generally
quite small though.

With an exchange-traded future, the clearing house interposes itself on every trade. Thus there is
no risk of counterparty default. The only risk is that the clearing house defaults (e.g. become
bankrupt), which is considered very unlikely.