[Derivative ABC] How Are Futures Prices Determined?

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[Asia Economy Reporter Ji-hwan Park] The term 'futures' is often heard when investing in derivatives.

The dictionary definition of futures is 'advance purchase, later delivery.' In other words, it refers to a transaction method where the purchase is made first, followed by the delivery of the goods. In other words, it is a transaction that promises to deliver or receive goods or financial assets at a predetermined price at a specific future date. In futures trading, payment settlement and delivery of goods occur simultaneously only after a certain period following the transaction.

According to the Korea Exchange, futures prices are determined by the selling and buying forces for each settlement month item in the futures market. Since futures prices represent the spot prices at a certain future time, spot prices are an important determinant of futures prices.

Theoretically, buying gold futures with delivery set for one year later is the same as purchasing spot gold now and holding it for one year. Therefore, the futures price at a specific point in time can be considered the sum of costs incurred when purchasing the spot and holding it until maturity. These costs include capital procurement costs and interest expenses since capital is needed to purchase the spot. There are also storage costs incurred until the maturity date. As the maturity date approaches, the theoretical futures price converges to the spot price because storage and interest costs approach zero.

Unlike general commodities, when holding spot securities such as stocks, intermediate income such as dividends or interest income must also be considered. In this case, the income portion should be deducted from the futures price.

However, futures prices fluctuate according to supply and demand based on future spot price expectations. If the spot price is expected to rise, futures prices are formed higher than the theoretical futures price, and conversely, if a decline is expected, futures prices are formed lower than the theoretical futures price. This is why futures prices do not always match theoretical futures prices.