Traders roll over futures contracts to switch from the front month contract that is close to expiration to another contract in a further-out month. Futures contracts have expiration dates as opposed to stocks that trade in perpetuity. They are rolled over to a different month to avoid the costs and obligations associated with settlement of the contracts. Futures contracts are most often settled by physical settlement or cash settlement.
Key Takeaways
- Traders will roll over futures contracts that are about to expire to a longer-dated contract in order to maintain the same position following expiry.
- The roll involves selling the front-month contract already held to buy a similar contract but with longer time to maturity.
- Depending whether the futures is cash vs. physical settlement may influence the roll strategy.
Why Roll?
Rolling futures contracts refers to extending the expiration or maturity of a position forward by closing the initial contract and opening a new longer-term contract for the sameunderlying assetat the then-current market price. A roll enables a trader to maintain the same riskposition beyond the initial expiration of the contract, since futures contracts have finite expiration dates. It is usually carried out shortly before expiration of the initial contract and requires that the gain or loss on the original contract be settled.
A futures position must be closed out either before theFirst Notice Day, in the case of physically delivered contracts, or before theLast Trading Day, in the case of cash-settled contracts. The contract is usually closed for cash, and the investor simultaneously enters into the same futures contract trade with a later expiry date.
For example, if a trader islonga crude oil futureat $75 with a June expiry, they would close this trade before it expires and then enter into a new crude oil contractat the current market rate and that expires at a later date.
Physical Settlement
Non-financial commodities such as grains, livestock and precious metals most often use physical settlement. Upon expiration of the futures contract, the clearinghouse matches the holder of a long contract against the holder of a short position. The short position delivers the underlying asset to the long position. The holder of the long position must place the entire value of the contract with the clearinghouse to take delivery of the asset.
This is quite costly. For example, one contract of corn with 5,000 bushels costs $25,000 at $5.00 a bushel. In addition, there are delivery and storage expenses. Thus, most traders want to avoid physical delivery and roll their positions prior to expiration to avoid it.
Cash Settlement
Many financial futures contracts, such as the popular E-mini contracts, are cash settled upon expiration. This means on the last day of trading, the value of the contract is marked to market and the trader’s account is debited or credited depending on whether there is a profit or loss. Large traders usually roll their positions prior to expiration to maintain the same exposure to the market. Some traders may attempt to profit from pricing anomalies during these rollover periods.
FAQs
Rollover. Rollover is when a trader moves his position from the front month contract to a another contract further in the future. Traders will determine when they need to move to the new contract by watching volume of both the expiring contract and next month contract.
Do futures contracts automatically roll? ›
Futures roll
Because futures contracts have an expiration date, you may need to roll a position in order to maintain it. This means closing the current position in the expiring month and opening a new position in the next month, which would incur additional costs.
Can futures be rolled over? ›
All derivative contracts have an expiry date. Traders entering into a contract have to abide by their terms on or before the expiry date. However, they also have the option to carry forward their contracts to the coming months. This carry forward is termed as the Rollover of Futures Contracts.
What happens if we don't close futures on expiry? ›
If you don't act, the contract will reach its natural conclusion, through either cash settlement or physical delivery, depending on the contract's terms. If it's a cash-settled contract, the settlement will be calculated based on the market prices at expiration and credited or debited to your account.
How much does it cost to rollover a futures contract? ›
Effectively, when you long roll the Nifty futures you will be incurring a roll cost of 5.03% annualized. Therefore when you are holding on to the position for a longer period of time you need to ensure that your returns on the long position cover the roll cost too. Using the roll spread window to execute long rolls..
What happens if you don't roll a futures contract? ›
Settlement. If a trader has not offset or rolled his position prior to contract expiration, the contract will expire and the trader will go to settlement. At this point, a trader with a short position will be obligated to deliver the underlying asset under the terms of the original contract.
Can you hold a futures contract forever? ›
Unlike shares of stock, which in theory can be held forever, futures contracts expire in a specified month. Commodity futures based on grain or crude oil offer the potential for "physical delivery," where the buyer takes possession of the commodity (and the seller must deliver the commodity).
Can you pull out of a futures contract? ›
After establishing a futures position, the primary decision you will make is when to close the position. To close an open position, you can take the opposite position in the same futures contract you are currently holding in your account.
Can you walk away from a futures contract? ›
If you walk, you're only out the money you spent to arrange the contract. A futures contract obliges both parties in the contract to fulfill their end of the bargain.
Are futures more risky than forwards? ›
There is less oversight for forward contracts as privately negotiated, while futures are regulated by the Commodity Futures Trading Commission (CFTC). Forwards have more counterparty risk than futures.
What is Rollover? A rollover means carrying forward your future positions from closing your positions near the expiry date to opening the same new position in a further-out month contract. In simpler words, the process of carrying forward your position from one month to another month is called a rollover.
When to roll futures contracts? ›
Traders will roll over futures contracts that are about to expire to a longer-dated contract in order to maintain the same position following expiry. The roll involves selling the front-month contract already held to buy a similar contract but with longer time to maturity. Depending whether the futures is cash vs.
How long can you keep a futures trade open? ›
This allows traders to keep their positions open indefinitely, without the need to close or roll over the contract. Funding rate: To keep the price of perpetual futures close to the underlying asset's spot price, a mechanism called the funding rate is used.
Can you sell a futures contract anytime? ›
Before expiration, the futures contract—the long position—can be sold at the current price, closing the long position. Investors can also take a short speculative position if they predict the price will fall. If the price declines, the trader will take an offsetting position to close the contract.
How much money is required to buy a futures contract? ›
How much funds do I need to trade futures? Trading in futures contracts involves margin payment. The volume of margin will depend on the stake size. However, most brokers will ask for at least 10 percent upfront margin to place a trade.
Do futures settle immediately? ›
Like forwards, futures contracts involve agreeing to buy and sell an asset at a specific price at a future date. These contracts are marked to market daily, which means that daily changes are settled daily until the end of the contract.
Can you back out of a futures contract? ›
There are two ways to end your position in a futures contract before its expiration date. The first is to sell the contract to someone else. This will end your position, although it doesn't end the contract. The second, and more common method, is called "closing out."
