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:

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 p

erformance

results are not necessarily indicative of a future forecasting ability or profitable investing / trading

result.

Risk Disclosure

Getting Started With
Traditional Commodities and
Futures

Part Two of Two:
Section A

Introduction

• In depth discussion of Futures Contracts

• Introduction of Trade Management Tools

• Analysis of Futures Charts

What I will cover in this half of the seminar

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

• They use futures as an

insurance vehicle

• ABN Amro Inc.

• Deutsche Bank

Securities Inc.

• Barclays Capital Inc.

• Goldman Sachs Inc.

• Most Fortune 500

companies.

• Two Categories -

• Large Speculators

• Cantor Fitzgerald & Co.

• Banc of America Futures

Inc.

• Small Speculators

Speculators

Hedgers

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

Price Quotation: Cents per pound

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

Initial Margin

Maintenance Margin

S & P 500

250 x S&P 500

1 Point = $2.50

$17,813.00

$14,250.00

Live Cattle

40,000 Pounds

1 Point = $4.00

$810.00

$600.00

Coffee

37,500 pounds

1 Point = $3.75

$1,680.00

$1,200.00

Gold

100 Troy Ounces 1 Dollar = $100.00

$2,025.00

$1,500.00

Crude Oil

1,000 Barrels

1 Cent = $10.00

$3,375.00

$2,500.00

Eurex Bund

100,000 ECU

1 Point = 10 ECU

ECU 2,045.00

ECU 2,045

US Dollar Index

1,000 x USDX

1 Point= $10.00

$1,595.00

$1,200.00

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

• First Notice Day-

Speculators have

to “sell” their

positions. Drives

price down.

• Last Notice Day-

hedgers begin

their selling

• Last Trading Day-

Complete market

shake out.

• First notice day-

Speculators add

to position.

• Last notice day-

Short covering

rally.

• Last trading Day-

Complete market

shake out and roll

over

Short

Long

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

Gain 0-29

Net gain = 0-08

Basis 10 – Basis 2 = 0-08

Narrowing basis is profitable for long cash hedger

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

Gain 0-18

Net loss = 0-03

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

Futures Down = Loss

(Short)

(Long)

Cash Up = Gain

Cash Up = Loss

(Long)

(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

Cash Down = Gain

(Long)

(Short)

Futures Up= Loss

Futures Up= Gain

(Short)

(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

Coffee

Mar 2004

68.80

KCK04

Coffee

May 2004

70.55

KCN04

Coffee

July 2004

72.30

KCU04

Coffee

Sep 2004

74.00

KCZ04

Coffee

Dec 2004

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

Light Crude Oil

Feb ' 2004

$34.33

CLH04

Light Crude Oil

Mar ' 2004

$34.06

CLJ04

Light Crude Oil

Apr' 2004

$33.52

CLK04

Light Crude Oil

May 2004

$32.94

CLM04

Light Crude Oil

Jun' 2004

$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 information-

http://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