If you are bearish on gasoline, you can profit from a fall in gasoline price by taking up a short position in the gasoline futures market. You can do so by selling (shorting) one or more gasoline futures contracts at a futures exchange.
You decide to go short one near-month TOCOM Gasoline Futures contract at the price of JPY 31,820/kl. Since each Gasoline futures contract represents 50 kiloliters of gasoline, the value of the contract is JPY 1,591,000. To enter the short futures position, you have to put up an initial margin of JPY 210,000.
A week later, the price of gasoline falls and correspondingly, the price of TOCOM Gasoline futures drops to JPY 28,638 per kiloliter. Each contract is now worth only JPY 1,431,900. So by closing out your futures position now, you can exit your short position in Gasoline Futures with a profit of JPY 159,100.
|Short Gasoline Futures Strategy: Sell HIGH, Buy LOW|
|SELL 50 kiloliters of gasoline at JPY 31,820/kl||JPY 1,591,000|
|BUY 50 kiloliters of gasoline at JPY 28,638/kl||JPY 1,431,900|
|Investment (Initial Margin)||JPY 210,000|
|Return on Investment||76%|
In the examples shown above, although gasoline prices have moved by only 10%, the ROI generated is 0%. This leverage is made possible by the relatively low margin (approximately 13%) required to control a large amount of gasoline represented by each contract.
Leverage is a double edged weapon. The above examples only depict positive scenarios whereby the market is favorable towards you. If the market turn against you, you will be required to top up your account to meet the margin requirements in order for your futures position to remain open.
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