Understanding Oil Futures and How to Trade Them in India

Crude oil futures are one of the popular financial instruments that allow people to speculate on the future price of crude oil. Oil futures are mainly described as one of the most actively traded forms within the global market. This article will give an understanding of the workings of oil futures specifically concerning the Indian market and in turn discuss the formation of the oil futures, the advantages and disadvantages of oil futures, trading strategies associated with oil futures, and the operational factors related to investment in oil futures.

What are Oil Futures?

Oil futures are monetary agreements through which two parties agree to buy and sell crude at an agreed price and date in the future. These contracts in India can be traded through MCX which is an authorized commodity exchange in India and is one of the largest of its kind in the country. There are various contracts that investors are privileged to choose which includs Brent Crude and West Texas Intermediate- WTI.

These contracts are standardized, with monthly expirations and volumes typically expressed in barrels—usually 1,000 barrels per contract. The pricing is dependent on the global supply and demand and political factors such as the political stability of countries, and other economic factors.

How Do Oil Futures Contracts Operate?

This article explores how oil futures contracts function to simplify their understanding for traders.

1. Contract Specification: The quantity aspects associated with every oil future include the amount or the size of the petroleum oil through which the particular future is built expressed in barrels, the quality of the oil, and the delivery destination of the petroleum oil. For instance, the contract size at the MCX is based on lots of one hundred barrels of oil.
2. Pricing: Oil futures’ prices can move up and down in accordance with market sentiment, knowledge of the economic calendar, and basic supply and demand principles. Traders’ trends are done by applying technical analysis or fundamental analysis.
3. Leverage: What has always enticed traders when it comes to oil futures is the meaning of leverage which makes it possible to control a larger quantity with little money. In addition, the study also wanted to look at the effect of leverage on risk: However, leverage also destroys value.
4. Settlement: Futures contracts could be tendered and delivered physically in the form of oil or be tendered in cash. Many traders prefer a cash settlement since the transportation of oil products attracts many issues.

Advantages of Investing in Oil Futures

Investing in oil futures offers several benefits:

1. Hedging Against Price Volatility: Fluctuations in oil prices are usually unpredictable because they can be an outcome of political events, natural disasters, or shifts in the economy. Futures contracts allow businesses and investors to lock in prices for commodities, protecting them from unfavourable price fluctuations.
2. Speculative Opportunities: As we have seen, traders can make money even if prices go up or down and they also are rewarded for volatility in prices of oil. For instance, if a speculator believes oil prices will rise, they may purchase futures contracts to profit from the expected increase. On the other hand, if they anticipate a drop, they can sell contracts.
3. Liquidity: Oil futures are ranked among the most negotiable markets in the world making it easier for those who want to enter or exit the oil futures markets.
4. Transparency and Regulation: The MCX, and other such channels, provide a regulated platform for the exchange of products and services; and fair prices.
5. Diversification: Investing in the futures market of oil is also a good idea because the price of oil is unlikely to move in tandem with the stocks.

Executing Trades in Oil Futures

To embark on oil futures trading, the following steps are followed. Here’s how you can start buying and selling these contracts:

1. Choose a Broker: Choosing the right broker plays a significant role in trading futures. Make sure the broker provides you access to the MCX and has an exemplary trading platform in place.
2. Open a Trading Account: When you decide on a broker you wish to engage with, you will need to sign up with the trading account which might require providing identification and accepting the broker’s conditions.
3. Fund Your Account: Put an amount of cash into your trading account. This capital shall be employed for margin calls while trading futures.
4. Analyze Market Conditions: Look into the current market status both locally and internationally and the changes in the price of securities. It is notable that there are two apparently irreconcilable methodologies for generating signals regarding a security’s prospective price action: technical analysis and fundamental analysis.
5. Placing Orders: Regarding  an order, you can make different types of orders such as market orders, limit orders, stop-loss orders, and many more.
6. Monitor Your Positions: Monitor your positions and the market regularly, adjusting strategies as needed based on market fluctuations.

How to Purchase Oil Futures

Purchasing oil futures can be broken down into straightforward steps:

1. Account Setup: It is good to have a margin account since trading in futures needs one to meet a specific amount of capital.
2. Market Research: Monitor market news, geopolitical events, as well as economic statistics and indicators that affect the price of oil.
3. Select a Contract: Select the oil futures contract as seen in the sample that includes brent or WTI that one requires to trade.
4. Determine Position Size: Decide the number of contracts that you wish to buy depending on your risk factor and capital which is involved in the trade.
5. Place Your Order: You are required to carry out your order through your broker’s trading platform. Check the specifications of the contract, quantity, and type of order.
6. Risk Management: In risk management, actions like the setting of stop loss should be taken to avoid further losses in case they occur.

Are Oil Futures Worth the Investment?

The suitability of oil futures as an investment depends on factors such as the investor’s goals, risk tolerance, and global market conditions.

1. Market Volatility: The oil prices are so flexible and direction is determined by various factors like the decision of OPEC, geopolitical crisis, and measurements of economic liberalization. For those native to the geography with active trading experience and a detailed understanding of the market fluctuations, there may be ways to earn money.
2. Long-Term vs. Short-Term: It is  better off going long in the oil stocks or an exchange-traded fund if you are a long-term  investor. However, if you are an intraday speculator, oil futures can offer significant profit potential.
3. Knowledge and Experience: Thus, a successful futures trading strategy presupposes a deep knowledge of the trends within the market, technical analysis, and individual risk management models. The new entrant should begin with limited amounts to participate in these markets and then proceed to engage more capital subsequently.
4. Hedging Needs: Closely oil price-related businesses and sectors like airline industries, and logistic industries oil futures have the capability of acting as a hedge against price risks.

Summary and Final Thoughts

Future trading of oil in India is quite beneficial as they have their own problems but at the same time, they have opportunities as well. Educating oneself on the basics of futures contracts, the advantages of investment, and how trades take place are paramount to this market.

Even though oil futures can generate incredible first-class profits, it also includes certain risks and losses that are specific to trading in the oil market which is why everyone needs to approach and plan carefully. By utilizing tools like market analysis and risk management, investors can capitalize on the dynamic nature of the oil market through futures trading.

Whether you are an experienced trader or a beginner, oil futures can be a valuable addition to your investment portfolio. Bearing in mind these key approaches to trading, Indian traders are positioned to fully participate in this fascinating commodities market.

• Author: Religare Broking
• Last Updated: November 26, 2024