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Learn > Derivatives > Understanding Futures Contract Expiration and Settlement

Understanding Futures Contract Expiration and Settlement


Source: BURSA | Published: July 2022

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Expiration and Final Trading Day of a Futures Contract

Contract expiration is a vital aspect of futures trading that traders and investors need to understand. Every futures contract has a limited lifespan depending on its expiration date. The expiration date is the final trading day that the contract can be traded. The expiration day for each futures contract varies and is defined in the contract specifications. For example, the final trading day for BMD Crude Palm Oil Futures (FCPO) is at noon on the 15th day of the delivery or the spot month, while for the BMD FBM KL Composite Index Futures (FKLI), it is on the last business day of the spot-month contract.

Final Settlement Methodology

Depending on the contract specifications, the final settlement methodology for a futures contract can be either by physical delivery or cash settlement. Physical delivery is commonly used for physical commodity contracts such as agricultural commodities. BMD FCPO final settlement is through physical delivery, and sellers can deliver physical crude palm oil to buyers via the registered Port Tank Installations (PTIs) located at Port Klang, Butterworth and Pasir Gudang.

On the other hand, the cash settlement methodology is more often used in equity index and financial futures contracts such as interest rates futures.However, cash settlement can also be used in commodity-based contracts as well.FKLI is a cash-settled contract,and no

physical delivery occurs for this contract. During the final settlement of cash-settled contracts, profit or losses are credited or debited in the trading accounts with reference to the final settlement price as calculated by the clearing house according to the rules of the Exchange.

What You Can Do at Contract Expiration

As the contract expiration approaches, traders with open positions in the futures market may choose to take or make physical delivery of the underlying commodity. If the traders hold until the contract expires, they are obliged to take or make delivery upon contract expiry. It is crucial to note that physical delivery is expressly used for traders involved in the commercial trade of the physical commodity. Speculators do not get involved and are, in most cases, not advisable to hold spot month positions in physically delivered futures contracts

For cash settled contract, traders can hold until the contract expires and the contract will be cash settled based on price difference. Futures traders can also rollover the futures position into the next available contract month. Rollover involves the simultaneous liquidation of the expiring contract and opening a new contract in the next available contract month. More often than not, most of the futures contracts traded are closed out before expiration, and only a relatively small percentage of contracts are physically delivered.

Tags: DERIVATIVES

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