Crude oil Futures: Risks and Rewards
Trading crude oil futures uses a high degree of leverage. It is possible for those who trade crude oil futures to make and lose substantial amounts of money in a very short period of time. The price of crude oil is notorious for its volatility. It can easily move 5 to 10% in a single trading session. Crude is especially sensitive to breaking political and economic news, as well as to weekly storage and production reports.
Trading oil futures entails a substantial amount of risk. Investors may need to meet a margin call if a position goes against them, or the position may be liquidated at a loss. However, there are some strategies that can define the amount of capital at risk. Investors who want to invest in crude oil futures should understand how they work and the risks involved.
Crude Oil Contract Specifications
A futures contract is an agreement to buy or sell a specific commodity or another financial instrument at a predetermined price in the future. Futures contracts are standardized, which allows them to be traded on an exchange. Some futures contracts are settled by delivery of the physical asset, and others are settled by cash according to the final price of the contract.
A crude oil futures contract represents 1,000 barrels of oil deliverable at some point in the future, depending on the contract month. A $1 move in the price of the oil contract equals $1,000. Assume an investor is long one contract of crude oil at $50. If the price of oil goes to $48, the investor will be behind $2,000 on the position.
The contracts are traded on the New York Mercantile Exchange (NYMEX) exchange. There are futures contracts on both crude oil and Brent crude oil. Both contracts are settled by physical delivery of the oil. Most investors do not want to be responsible for the physical delivery of this much crude oil. Investors must therefore pay attention to contract delivery and expiration dates. An investor should roll the position to another month or otherwise close out the position before expiration.