Financial Futures Essay Example | Topics and Well Written Essays - 3000 words

Financial Futures - Essay Example And, the carry cost is the amount of interest expense paid by the investor to hold on to the commodity purchased in the futures market until the maturity of the futures contract. Many bold and daring investors would enter into an arbitrage transaction where they would invest in shares of stocks in a corporation with the hope that the company will merge or consolidate with another company in the same line of business (Bjrk 2004, 1). The following paragraphs will explain in detail how commodity futures work. Most investors would enter into a cash and carry arbitrage contract. Their main reason would be to invest in two securities that are differently priced in the market with respect to each other. Eventually, the prices of both commodities will correct itself by either increasing or decreasing per commodity. For, a correction of prices would cause a profit on one commodity and a loss on the other commodity. Equitably, both commodities will zero out thereby future losses can be avoided or diminished to a great extend. The commodities include gold, silver, coffee, sugar, oil, U.S. dollar currency, European dollar currency, Japanese Yen, French Franc, and other currencies. Also, "For as long as national currencies are in operation, and are used in day-to-day foreign trade, the demand and supply for those currencies will be affected by the size of exports and imports in those currencies" (Scobie, Buckley, and Fox 1998, 8) Further, the arbitrage investor would profit from his investments if he invests in a security and in the futures contracts. The investor would then profit if the amount he put in the commodity plus the added cost of carrying is less than the futures prices. One definite advantage of the commodities futures market is that the investors can sell a commodity like the European dollar today and then buy the same commodity, European dollar, three days from today. This is not possible in the real world outside the commodities market. A person cannot sell a product that he or she does not own. For this would entail personnel turning over to the buyer the car, house, shirt, or computer game the moment when he or she pays for the items bought (Blake 2000, 231). In terms of oil, "The oil industry, more than other energy sectors, is global in its character and operations. The geographical concentration of reserves and the vital role of oil in modern society has made it the principal commodity in international trade (Haugland, Bergesen, and Roland 1998, 54) " Also, the current pricing of Eurodollar futures and US dollar Foreign Rate Agreements (FRA) high frequency data shows that arbitrage opportunities are linked to the presence of stale FRA quotes and the oscillatory behavior of FRA quotes. And, Inter -market information flows are found to be of much shorter duration than previously reported with the futures market playing the dominant role in the information transmission process in the shorter -dated maturities. Many companies invest in short term interest rate futures and forward rate agreements for