When first learning about the financial markets, I had trouble understanding the answer to the simple question: What is a futures contract? I was confused, because I was ignorant of their purpose, who traded them, and why. Because I had no understanding of their context, specific details about the structure of a futures contract meant little.

Consider an independent farmer with five hundred acres, a mortgage and equipment loans. The crop he chooses to sow in March must fetch a price high enough to cover his operating and personal expenses when he reaps it in September.

Suppose he chooses to plant soybeans. As he tends his crop, soybean prices could fall dramatically, leaving him unable to cover his expenses. To hedge the risk of falling prices while the crop matures, the farmer needs a buyer (Consumer or Speculator) to pay today's price for soybeans delivered in the future-in this example, September.

Who would enter into such an agreement? Who would assume all the risk of falling prices on behalf of the farmer-also called a producer?

Concerned that rising soybean prices may force margin compression, or price increases, a Frozen Foods Company that specializes in vegetarian meals decides to fix the cost of their primary ingredient, soybeans. To hedge the risk of rising prices, the company needs a seller (Producer or Speculator) to accept today's price for soybeans required in the future. Having fixed the cost of the primary ingredient, the company-or consumer-has hedged the risk of rising prices.

Lastly, we have a Ms. Fortune. She would not know a soybean from a jumping bean, but she knows markets. Having amassed a great deal of money, she often buys soybeans, then turns around and sells them; sells soybeans, then buys them. She has no interest in soybeans. She is a speculator. Profit is the goal of the speculator.

Originally, futures markets focused on commodities: raw materials like iron ore, copper and lumber; crops such as wheat, oats, rice, soybeans, cocoa, and coffee. Exchanges offered futures contracts for such materials because they all shared an intrinsic feature: Time. Grown, mined, or felled, time is the engine of their price risk.

As the markets matured, a class called Financial Futures swelled in popularity. Though many use financial futures in hedging strategies, the consumer/producer distinction loses relevance. Instead of the unavoidable risk of time within raw material production, financial futures

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