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actually own the commodity (in this case gold), but let the clearing house worry about that. This means that you are actually selling something that you don't own and probably never will, but if you don't settle your contracts prior to maturity, you would then need to make good on the contracts by purchasing the gold on the spot market and making the delivery. This leads us into the discussion of margin and the power of leverage, which we will cover in the next section.

But even if you did own some gold against which you sell futures contracts, you may not want to necessarily give up your stash. And if you believe that gold prices are headed lower, what better way to take advantage of this price drop than to sell gold futures contracts, settle them later on (by going long), and pocket the difference? You will still get to keep your gold while making a profit selling gold contracts. But not so fast. The downside would be if those gold contracts start to climb beyond $305/oz. and you haven't settled your contracts, you will then have to deliver the gold come delivery date. This would translate into a loss, since without the contract obligation you could have sold your gold on the spot market for a higher price than $305/oz. or you could have sold those futures contracts at that time, which would have fetched you more than $305/oz.

But what about those times when the underlying commodity has no price movement? Suppose you buy or sell gold contracts three months out at $305/oz. and gold prices remain at $300/oz. through the delivery date. If you bought your contracts for $305/oz., at delivery time you will be out $5/oz. Offsetting them just prior to delivery won't help either as those contract prices would converge to $300/oz. as you get closer to the delivery date, which means the best price you could get for selling them would be $300/oz. for a loss of $5/oz. If on the other hand you had sold the contracts at $305/oz., you would settle your contracts (by going long) at $300/oz. and pocket the $5/oz. difference. Or on those rare …