If you watched crude oil futures fall more than 3% to below $85 a barrel this week as the United States and Iran moved toward an agreement to reopen the Strait of Hormuz, you saw futures pricing in action.
Futures prices are constantly moving, and it’s essential to understand what moves them whether you’re trading contracts directly or simply want to know why gas prices, mortgage rates, and grocery bills change the way they do.
How are futures prices determined?
Futures prices are determined by open market bids between buyers and sellers on regulated exchanges, which are based on two main forces: the current spot price of the underlying asset and the market’s collective expectation of where that price will go by the contract’s expiration date.
In other words, there is no committee that sets the price of the December crude oil contract.
Thousands of traders, hedgers and institutions provide quotes and offers through exchanges like CME Group, and the price you see on your screen is simply the last level that the buyer and seller agreed to deal with.
This process, called price discovery, takes place 24 hours a day, five days a week.
Spot price and load cost
Each futures price starts with the spot price, which represents the cost of the asset for immediate delivery today.
From there, traders add or subtract what economists call the cost of carrying.
For physical commodities like gold, oil, or corn, the carrying cost includes storage, insurance, and the interest you give up by tying funds to the asset until delivery.
For financial futures contracts such as the S&P 500, the math swaps storage costs for interest rates and subtracts expected profits.
That’s why interest rates are so important to futures pricing, and why traders watch the Fed’s policy moves closely.
When prices rise, the cost of carrying the asset to a future date rises with it, which tends to push futures prices higher than the spot price.
Supply, demand and forecasts
Above this mechanical foundation lies the messiest element: expectations.
Futures prices reflect everything the market believes about future supply and demand, and are updated in real time as news unfolds.
This week provided a textbook example. US crude futures fell 3.2 percent to close at $84.88 a barrel on Friday, and prices lost about 6 percent during the week, as traders bet that the US-Iran agreement will restore oil flows through the Strait of Hormuz.
Nothing changed about today’s physical oil supply in those sessions. I made the predictions.
The same dynamic was evident in May, when… Brent crude fell due to reports that Washington and Tehran were close to extending the ceasefire.
Weather forecasts move grain futures, earnings season moves index futures, and inflation reports move interest rate futures for the same reason: each piece of news reshapes consensus expectations.
Contango and underdevelopment
The relationship between futures prices and spot prices has its own vocabulary.
When timely incremental contracts cost more than short-term contracts, the market is in a state of contango, which typically reflects normal carrying costs.
When the cost of long-term contracts is lower than short-term contracts, the market is in a state of lagging, which often indicates a lack of supply at the moment, which is exactly the situation that oil markets demonstrated during the worst of the Strait of Hormuz turmoil this spring.
Reading this curve tells you a lot about what professional traders expect, and it is one of the first skills worth building. We collapsed How do futures contracts work?from contract specifications to settlement, if you want a deeper dive into the mechanics.
Convergence at expiration
There is one rule that applies no matter how brutal the speculation: As the contract approaches expiration, its price converges with the spot price.
Arbitration requires this. If a contract expiring tomorrow trades well above the spot price, traders will sell the contract, buy the physical asset, take delivery, and make a risk-free profit until the gap closes.
This convergence is what keeps futures connected to reality rather than drifting into mere speculation.
View prices in real time
The quickest way to absorb all of this is to watch live futures quotes reacting to the news.
Plus500 offers a Futures platform with real-time data and a free demo accountso you can watch repricing of crude oil and gold contracts and indicators around events like the potential Iran deal this weekend without putting your capital at risk.
When you’re ready to compare costs and tools more broadly, we’ve ranked Best futures trading platforms On commissions, margins, and platform quality, I rounded up Best Brokers for Futures Traders Through trading method.
Watch for expiration next week, too: The June S&P 500 contract settles on June 18, and watching its final convergence with the index is a free lesson in how futures pricing actually works.
