By Samuel Taube
Transcript:
Samuel Taube: Joining us again today is Andy Gordon, the co-founder of Early Investing, and today we are talking about the imminent launch of bitcoin futures. Andy, thanks for joining us again.
Andy Gordon: Glad to be here, Sam.
ST: So the Chicago Mercantile Exchange recently announced – I think it was the CEO – that bitcoin futures are coming and that they could begin trading before the end of the year.
Now I wanted to ask if you could briefly explain to our audience how a futures contract would work with bitcoin.
My familiarity with futures is more so for agricultural commodities and things like that, where a coffee farmer can sell the rights to his future crop to a trader. That way he gets a guaranteed income, and the trader can make a profit if the market price goes up. But how would this work with bitcoin exactly?
AG: Well, you’re asking a very interesting question. You know, there’s a long answer, which could take hours.
ST: Could take the form of a college course, yeah.
AG: Exactly. There are somewhat shorter answers, and after I answer this question, I’ll explain to you the theory of relativity, okay?
ST: Right.
AG: So we’ll take care of all the difficult questions right off the bat. I’ll give it a try, Sam. And since you brought up the example of a coffee farmer, let’s stick with that, okay?
So a futures contract is actually made up of two contracts or two sides of a contract: the short side and the long side. The coffee farmer would be the short side. The farmer, the producer, the shipper and the seller – they’re all the short side of a futures contract. And the other side – the buying side, the distributor side or whatever you want to call that side – would be the long side.
So you’re the coffee farmer, and you want to make sure that you get paid a certain amount of money. So you lock into a price for a given period to make sure that you get paid – for all kinds of reasons – so now you know you’re going to make a profit from your coffee beans. You won’t have to worry about…
ST: The weather, supply and all that, yeah.
AG: The weather or some catastrophe coming in the next few months. So what happens though if prices go down? Normally if prices go down, you would suffer, right? You’d be in a tough spot. Maybe you wouldn’t even be making a profit. So if you lock into a futures contract, that futures contract makes up the difference of what you lose. It deposits that money.
So suppose you’re selling your coffee beans for – just taking an arbitrary number – $100 a pound. And so let’s say prices went down to $75 a pound. The futures contract would deposit that $25 into your account to make up for the difference. So what’s the dynamic here? If prices go down, the futures contract gives you money. Prices go …read more
Source:: Investment You
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