Presents

Speculating with Futures and

Traditional Commodities
With

Noble DraKoln
author of
the best-selling books
Futures For Small
Speculators
and
Single Stock Futures
For Small Speculators.

Sponsored by:

Charts by:

Risk Disclosure

All of the information provided is for informational purposes and in no instance should the content of this
presentation be construed as an express or implied promise, guarantee, or implication that you might profit from or
that your potential loss may become limited in any manner whatsoever. Nor is the information provided to be
construed as an offer to sell or a solicitation to purchase anything. Recommendations may result in a loss, therefore,
no claim is implied or made that a loss will not result from following the information provided. The information
provided by Noble DraKoln, on-line Internet sites, email or in a communicated report by other means is subject to
change at any time without prior notice. And while the information is obtained from sources and methods believed to
be reliable it is not guaranteed as to its accuracy or completeness and therefore those using this information are
fully responsible for their own actions. Our analysis may reflect or discuss historical trends which may not repeat
themselves. Investing / trading in equities, futures, options, stock indices, etc. involves an inherent and possible
substantial risk. Price can and does move rapidly in a volatile manner from time to time and market conditions can
present themselves where the liquidation of an existing position may not be possible at the time / price that
execution is desired for your order. Therefore one should conduct their own research to investigate the
appropriateness of the related risk before entering into such transactions. Futures trading is risky, only persons who
can afford to lose their entire investments should consider this type of trading. Liverpoolgroup.com, Liverpool
Derivatives Group Co., its officers, directors, editors, employees, clients, and others may purchase or sell the
commodity futures and / or other risk investment vehicles referred to at an on-line Internet site area or contained in
other communications, information, or report. All information relating to past performance is to be considered
hypothetical or simulated, and therefore does not necessarily represent actual trading results. Past performance
results are not necessarily indicative of a future forecasting ability or profitable investing / trading result.

Getting Started With

Traditional Commodities and
Futures
Part Two of Two:
Section A

Introduction
What I will cover in this half of the seminar

In depth discussion of Futures Contracts

Introduction of Trade Management Tools
Analysis of Futures Charts

In depth discussion of Futures Contracts

In depth discussion of
Futures Contracts
Deciphering a Futures contract
Futures Contract Pricing
Reports of Supply and Demand

Deciphering a Futures
Contract
Identifying the players
Volatility of futures contracts versus Stocks
Obligations of a futures contract holder
Specifications of a Futures contract
Contracts, their margins and trading months
Understanding notice days and delivery dates
Tying all of this together

Identifying the Players

Hedgers
They use futures as an
insurance vehicle
ABN Amro Inc.
Deutsche Bank
Securities Inc.
Barclays Capital Inc.
Goldman Sachs Inc.
Most Fortune 500
companies.

Speculators
Two Categories Large Speculators
Cantor Fitzgerald & Co.
Banc of America Futures
Inc.
Small Speculators

Futures are Obligations

not Ownership
Must Offset the Contract before expiration
Make or Take Delivery at expiration
Marked to Market
Margin leverage, 5 to 1, or more
Supply of futures contracts is unlimited
Shorting is designed as if you had a cash position
Speculators and Hedgers both deal with these issues.

Example of Futures
Contract
Futures Contract on Coffee "C"
Trading Unit: 37,500 lbs. (approx. 250 bags)
Price Quotation: Cents per pound

Trading Hours: 9:15 am to 12:30 pm; closing period commences at 12:28 pm

Delivery Months: March, May, July, September, December Ticker Symbol: KC Minimum Fluctuation: 5/100 cent/lb., equivalent
to $18.75 per contract.
Last Trading Day: One business day prior to last notice day.
First Notice Day: Seven business days prior to first business day of delivery month.
Last Notice Day: Seven business days prior to last business day of delivery month.
Daily Price Limits: None
Position Limits: Spot Month: 500 contracts as of the first notice day in the expiring month. Additionally, Position Accountability
Rules apply to all futures and options contract months. Contact the Exchange for more information.
Standards: A Notice of Certification is issued based on testing the grade of the beans and by cup testing for flavor. The Exchange
uses certain coffees to establish the "basis" coffees judged better are at a premium those judged inferior are at a discount.
Deliverable Growths: Country
Differential: Mexico, Salvador, Guatemala, Costa Rica, Nicaragua, Kenya, New Guinea, Panama, Tanzania, Uganda: Basis
Colombia: Plus 200 pts, Honduras*, Venezuela, Peru*: Minus 100 pts Burundi, India*, Rwanda: Minus 300 pts , Dominican
Republic, Ecuador: Minus 400 pts
Delivery Points:
Exchange licensed warehouses in the Port of New York District (at par), the Port of New Orleans, the Port of Bremen/Hamburg , the
Port of Antwerp , and the Port of Miami (at a discount of 1.25 cents/lb).

Example of a Single Stock

Futures
Contract
Single Stock Futures Contract
Specifications Contract Size: 100 shares of underlying security
Minimum Price Fluctuation: (Tick Size) $0.01 x 100 shares = $1.00
Regular Trading Hours for Single Stock Futures
8:30 a.m. - 3:00 p.m. Central Time
Regular Trading Hours for Futures on DIAMONDS ETF
8:30 a.m. - 3:15 p.m. Central Time
Position Limits: Apply only during the last five trading days prior to expiration: either 13,500 net contracts or 22,500 net
contracts as required by CFTC regulations. Click here to download a list of position limits for OneChicago SSFs (CSV
format).
Daily Price Limits: None
Reportable Position Level: 200 Contracts
Contract Months: Two quarterly expirations and two serial months, for a total of four expirations per product class.
OneChicago follows the quarterly cycle of March (H), June (M), September (U), and December (Z). The serial
months traded are the two nearest months that are not quarterly expirations.
Expiration Date-Last Trading Day: Third Friday of contract month or, if such Friday is not a business day, the
immediately preceding business day
Settlement / Delivery: Physical delivery of underlying security on third business day following the Expiration Day

Contract Facts
There are 11 exchanges in the United States
There are over 370 active futures contracts
Unlike stocks, futures do not have a minimum number
to purchase.
Each commodity has its own special margin
requirements as well as movement frequency and
values/movement.
Futures contracts operate on their own independent
time cycle.

Margin Sheet Example

Commodity Contract

Contract Size

Point Value

S & P 500

250 x S&P 500

1 Point = $2.50

$17,813.00

Live Cattle

40,000 Pounds

1 Point = $4.00

$810.00

Coffee

37,500 pounds

1 Point = $3.75

$1,680.00

$1,200.00

$2,025.00

$1,500.00

$3,375.00

$2,500.00

ECU 2,045.00

ECU 2,045
$1,200.00

Gold

100 Troy Ounces 1 Dollar = $100.00

Initial Margin

Maintenance Margin
$14,250.00
$600.00

Crude Oil

1,000 Barrels

1 Cent = $10.00

Eurex Bund

100,000 ECU

1 Point = 10 ECU

US Dollar Index

1,000 x USDX

1 Point= $10.00

$1,595.00

Treasury Bills

$1,000,000.00

1 Point = $25.00

$405.00

$300.00

Soy Beans

5,000 Bushels

1 Cent = $50.00

$1,148.00

$850.00

Notice Days in Futures

Contracts expire in various months.
Leading up to that expiration date contract holders
have notice days.
Only 3% of futures contracts are delivered. This
creates opportunities to take advantage of the
notice day system.

Contract Notice Days

First Notice Day -

All commodity contracts except currencies are sellers'

option contracts. That is, sellers have the option of making delivery to
buyers at any time during the delivery period, but buyers cannot demand
delivery from sellers. First notice day is one to three days before the first
business day of the delivery month. In order to be sure that you avoid taking
delivery, you must be out of your long by the close of the day prior to First
Notice Day. In some contracts, first notice day occurs after last trading day.

Last Notice Day -

The last day of the delivery period on which sellers may

tender a delivery notice to buyers. In most cases, last notice day is from two
to seven business days prior to the last business day of the month.

Last Trading Day - All futures contracts outstanding after the last trading
day must be satisfied by delivery. Last trading days vary from commodity to
commodity, however, most occur during the latter part of the delivery month.

Actions of Contract
Holders
on Notice
Days
Long
Short
First Notice DaySpeculators have
to sell their
positions. Drives
price down.
Last Notice Dayhedgers begin
their selling
Last Trading DayComplete market
shake out.

First notice daySpeculators add

to position.
Last notice dayShort covering
rally.
Last trading DayComplete market
shake out and roll
over

Tying it together
1. Hedgers need futures for insurance purposes
2. Delivery Dates, Notice Dates all are based on supply
and demand cycles of the hedgers.
3. Future pricing is relative to its underlying commodity
4. Futures are heavily dependent on Supply and Demand.

Price
Understanding the relationship of futures and cash
Trading the price
Locating the reports that hedgers use and make

Futures, Cash, and Basis

Futures Price = changes in cash relative to expectations
Cash Price= response to supply and demand
Cash Price - Futures Price = Basis

Increase of Basis for short cash hedger = windfalls

Decrease of Basis for long cash hedger = windfalls

Example of Ideal Hedge

Short Hedge in T-Bond Futures
Cash Market

Futures Market

Buy cash bonds at 105-07

Now

Sell T-bond futures at 105-17

Sell cash bonds at 104-18

Later

Buy T-bond futures at 104-20

Loss

0-21

Net gain = 0-08

Basis 10 Basis 2 = 0-08

Narrowing basis is profitable for long cash hedger

Gain

0-29

Example of Ideal Hedge

Short Hedge in T-Bond Futures
Cash Market

Futures Market

Buy cash bonds at 105-07

Now

Sell T-bond futures at 105-17

Sell cash bonds at 104-18

Later

Buy T-bond futures at 104-31

Loss

0-21

Net loss = 0-03

Gain 0-18

Basis 10 Basis 13 =0-03

Widening basis is not profitable for a long cash hedger

Example of Increasing
Basis
Long Hedge in Corn Futures
Cash Market

Futures Market

Cash corn at $2.85/bu

Now

Buy corn futures at $2.96/bu

Buy cash corn $3.10/bu

Later

Sell corn futures at $3.25/bu

Loss $0.25/bu

Gain $0.29/bu
Net gain = +$0.04

Basis 11 Basis 15 = 4
Widening basis is profitable for a short cash hedger

Example of Decreasing
Basis
Long Hedge in T-Bond Futures
Cash Market

Futures Market

Sell cash bonds at 105-07

Now

Buy T-bond futures at 105-17

Buy cash bonds at 104-22

Later

Sell T-bond futures at 104-31

Gain

0-17

Loss

0-18

Net loss= - 0-01

Basis 10 Basis 9 = 0-01
Narrowing basis is not profitable for a short cash hedger

What Basis Risk means

Hedgers accept that basis risk exists

Speculators exploit it for profit

Convergence of Futures
and Cash
Since only 3% of hedgers actually take or make
delivery on futures contracts there are opportunities
when Futures and Cash converge.

Convergence of Cash and

Futures Prices in Normal
Market
SHORT HEDGE
LONG HEDGE
Futures Down = Gain
(Short)

Cash Up = Gain
(Long)

Futures Down = Loss

(Long)

Cash Up = Loss
(Short)

Short hedgers have convergence gains in normal markets.

Convergence of Cash and

Futures Prices in Inverted
Market
SHORT HEDGE
LONG HEDGE
Cash Down = Loss
(Long)

Futures Up= Loss

(Short)

Cash Down = Gain

(Short)

Futures Up= Gain

(Long)

Long hedgers have convergence gains in inverted markets.

Futures, Cash, and Basis

Great near end contract plays
Gives you the opportunity to view supply and demand
fulfil its course before investing
Gives you a clear opportunity to take advantage of the
contrarian view to investing

Trading the price

Contango - pricing situation in which futures prices get progressively

higher as maturities get progressively longer, creating negative spreads
As contracts go farther out. The increases reflect carrying costs,
Including storage, financing, and insurance.

Example of Contango
Prices
These are actual prices taken on 1/12/2004

Symbol

Contract

Month

Last

KCH04
KCK04
KCN04
KCU04
KCZ04

Coffee
Coffee
Coffee
Coffee
Coffee

Mar 2004
May 2004
July 2004
Sep 2004
Dec 2004

68.80
70.55
72.30
74.00
76.70

Example of Contango
Markets

Trading the price

Backwardation - when the cash price exceeds the future price or a

nearby futures price is greater than a more distant futures price.

Example of Backwardation
Prices

These are actual prices taken on 1/12/2004

Symbol

Contract

Month

Last

CLG04
CLH04
CLJ04
CLK04
CLM04

Light Crude Oil

Light Crude Oil
Light Crude Oil
Light Crude Oil
Light Crude Oil

Feb ' 2004

Mar ' 2004
Apr' 2004
May 2004
Jun' 2004

$34.33
$34.06
$33.52
$32.94
$32.40

Example of Backwardation
Months

Speculating on Price
Buy on switch overs from a contango
to backwardation.
Sell on switch overs from a
backwardation to a contango.
Combine these price anomalies with
notice days.
Contango and backwardation reflect
supply and demand.
Demand or lack of demand takes
precedence over expiration date. Price
matches hedger's needs.

Locating reports that

hedgers use

Exchanges as a source of information

Government as a source of information
News as a source of information

Exchanges as a source
of information

Contact information for the top four

exchanges-cbot.com, cme.com, nybot.com,
onechicago.com and nymex.com

Types of reports they issue- cash and futures

quotes, contract specifications, market
comments, background, news, export data,
along with educational information.

Frequency of Reports- Throughout the day

they release information about the various
commodities on their exchange.

Government as a source
Contact information- cftc.gov, usda.gov, doc.gov,
federalreserve.gov-- Specialty sites for commodities- Economic Research
Service (ers.usda.gov) National Agricultural Statistics
Service(usda.gov/nass) Foreign Agricultural Service
(fas.usda.gov) US Geological Survey (usgs.gov) Federal
Statistics (fedstats.gov)
Types of reports they issue- import, export, amount
available, who's buying what, weather concerns, mining
growth, governmental policies, laws etc.
Frequency of Reports- you can obtain dates for report
releases directly from their sites.

News Reports as a source

Contact informationhttp://www.statpub.com/(lentils,chickpeas,
spices),otal.com,(shipping company with an interest in
west africa), OsterDowJones or Bloomberg.

Types of reports they issue- AP style reports, specialty

reports or regionally narrow.

Frequency of Reports- multiple times daily, once a

week or month, annually.

Introduction of Trade
Management Tools

Three Trade Management

Tools
Trading Plan Questionnaire

Trade Worksheet

Trading Journal

Trading Plan
Questionnaire
Goal- This is done to set the returns you are looking for.
Objectives- How you hope to achieve that goal according
to the markets you intend to trade, how to best trade
them based on account equity, and risk-reward
thresholds.
There are over thirty different questions involving money
management and personality reactions to the emotions of
fear and greed.
In the new book Futures For Small Speculators:
Companion Guide there is a sample questionnaire sheet
that we use in house.

Trade Worksheet
This is used for each trade.
The reason to use it is to determine your logic with each
trade and your profit and loss objectives.
A typical trade worksheet will show you your entry and
exits, profit or loss. As well as the amount of margin it
took to hold a particular position, plus the expected
returns or losses on that margin.
It also included your expected losses and returns on you
overall account.
You couple this with a print out of the chart you used to
make the trade.

Trading Journal
The primary goal of the Trading Journal is to externalize
trading. It represents that a particular trade is just one of
many, so there is no need for an all or nothing approach.
The secondary goal is to have a complete log of all of
your trading decisions so that you can properly assess
your trading style, system, and attitude.
The primary objectives are to write down your feelings
and rationale when you initiate a trade and to do the
same when you exit a trade.

Conclusion

In depth discussion of Futures Contracts

Introduction to my Trade Management Tools
Analysis of Futures Charts