If you are bearish on lead, you can profit from a fall in lead price by taking up a short position in the lead futures market. You can do so by selling (shorting) one or more lead futures contracts at a futures exchange.
You decide to go short one near-month LME Lead Futures contract at the price of USD 1,145/ton. Since each Lead futures contract represents 25 tonnes of lead, the value of the contract is USD 28,625. To enter the short futures position, you have to put up an initial margin of USD 5,500.
A week later, the price of lead falls and correspondingly, the price of LME Lead futures drops to USD 1,031 per tonne. Each contract is now worth only USD 25,763. So by closing out your futures position now, you can exit your short position in Lead Futures with a profit of USD 2,863.
|Short Lead Futures Strategy: Sell HIGH, Buy LOW|
|SELL 25 tonnes of lead at USD 1,145/ton||USD 28,625|
|BUY 25 tonnes of lead at USD 1,031/ton||USD 25,763|
|Investment (Initial Margin)||USD 5,500|
|Return on Investment||52%|
In the examples shown above, although lead prices have moved by only 10%, the ROI generated is 0%. This leverage is made possible by the relatively low margin (approximately 19%) required to control a large amount of lead 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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