Why Futures Start at Zero Value and Settle Through Marking to Market
Summary
The document distinguishes a futures contract’s price from its value. At initiation, the contract is entered without an upfront payment between the parties, so its value is zero even though its agreed futures price is not. As the market price moves, the position develops a gain or loss; a forward contract generally retains that value until settlement.
Futures exchanges instead settle gains and losses through daily marking to market. The example describes a settlement price above the entry price, producing a cash credit based on the price difference and contract size. Once that amount is paid or received, the futures position is reset to zero for the next trading period. The alternative explanation expresses value as the discounted expected payoff and identifies the futures price as the level that makes initial value zero. These explanations are framed under simplified pricing assumptions; the document also notes that daily settlement changes the timing of cash flows and creates financing needs for gains or losses.
Key ideas
- A futures price is the agreed contract price, while value measures the position’s current economic gain or loss.
- A newly entered futures contract has zero initial value because neither side pays an upfront premium.
- Daily marking to market transfers gains and losses in cash and resets the position’s value.
- Forwards generally accumulate value until maturity, while futures realize cash flows along the way.
- Daily settlement affects financing because losses must be funded and gains can be invested.
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Full text
# why futures contract has no value
# why futures contract has no value
Can any one tell me, why `futures contract has no value`?
We know that the value of future(Maybe I confuse the concept of `future value` and `future price`): $$\textrm{Fut}(t,T) = \widetilde{E}[S(T)|\mathcal{F}_t]$$ How can it be zero? We only have the discounted value of cash flow is zero.
And why in the forward contract, $F$ is not zero in the $\Pi = V(S,t) - \delta S - \delta_1 Z.$ But just set $V = 0$ to obtain the forward price, it is unreasonable.
## Answer by nbbo2 (score 2)
https://quant.stackexchange.com/a/32991
The mathematical analysis above is correct, but to understand WHY we say that "a futures has no value" it is helpful to understand how a Futures Exchange works.
When you enter into a position (for example go long 1 crude oil contract at 45.25) you do not have to pay anything, nor does the seller of the contract receive any money from you. So it is correct that the futures contract at inception has no value. As the price of oil fluctuates during the day however, the contract does acquire a positive or negative value.
At the close of business on that day (2:30 pm New York Time) a Settlement Price of say 45.35 is declared by the exchange. This is based on the price the contract was trading for at that time. Your contract is now worth 1000*(45.35-45.25) = 100 dollars since there are 1000 bbl in one contract. During the night, you will be paid this amount in cash, thus resetting the value of the contract to zero. This is called the daily Mark to Market process. The next day the price will change again, but again this gain or loss will be settled in cash during the night.
This is why we say that a futures contract at inception or at the close of business has no value. It is being reset to zero each day, and we are analyzing the situation at the time of the reset.
## Answer by Chris Taylor (score 1)
https://quant.stackexchange.com/a/32985
The value of a futures contract is the forward value of the payment, discounted back to today -
$$ V(t,T) = e^{-r(T-t)} \mathbb{E} \left[ S(T) - F | \mathcal{F}_t \right] $$
and the price of a futures contract is the price $F$ that gives the contract zero present value -
$$ \begin{align} F & = \mathbb{E}\left[ S(T) | \mathcal{F}_t\right] \\ & = S(t)e^{r(T-t)} \end{align} $$
Note that as soon as you have entered a futures contract, the price $F$ is now fixed, which means that in general the futures contract no longer has zero present value (the same is true of a forward contract).
Your margin account at the exchange is credited or debited at the end of every day to take account of your profit/loss on the contract. This is the primary difference between futures and forwards - on a forward contract, you accumulate a non-zero present value on the contract over time, which is all realized at maturity. On a futures contract you realize your profit/loss as you go, and this requires financing (you need to fund your losses, and can invest your gains).Shown in full with attribution under the source's licence. Licence: CC BY-SA 4.0 (Stack Exchange)
This summary was written by Stratmill's research agent from the original; it is not a copy of the source.