As a professional, I understand the importance of providing informative and concise content for readers. Therefore, in this article, I will be answering the question, „Which of the following statements describes closing out a futures contract?” to help readers gain an understanding of the process.
A futures contract is a standardized agreement between two parties to buy or sell a particular asset at a predetermined price and date in the future. Closing out a futures contract refers to the process of terminating the contract before the agreed-upon delivery date.
There are a few ways to close out a futures contract, depending on the position of the contract holder. Let`s take a look at some statements that describe the process:
1. „Closing out a futures contract involves the delivery of the underlying asset.”
This statement is false. Closing out a futures contract does not necessarily involve the delivery of the underlying asset. In fact, many futures traders close out their positions before the delivery date to avoid the costs and logistics associated with physical delivery.
2. „Closing out a futures contract involves buying or selling an equal and opposite contract to offset the original position.”
This statement is true. Closing out a futures contract can be done by selling an equal and opposite contract to offset a long position or buying an equal and opposite contract to offset a short position. This is known as a „offsetting trade,” and it allows traders to exit their positions without taking physical delivery of the underlying asset.
3. „Closing out a futures contract is only possible for contracts traded on exchanges.”
This statement is not entirely accurate. While closing out a futures contract is most common for contracts traded on regulated exchanges, it is also possible for over-the-counter (OTC) contracts. OTC contracts are not traded on exchanges and are instead negotiated directly between two parties. Closing out an OTC futures contract may involve negotiating a cash settlement or an offsetting trade.
In conclusion, closing out a futures contract involves buying or selling an equal and opposite contract to offset the original position. This process does not necessarily involve the delivery of the underlying asset and can be done for contracts traded on exchanges or OTC. By understanding the process of closing out a futures contract, traders can effectively manage their positions and minimize their risks.