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Alternatively. the speculator could enter into a 9-month futures contract for 100 ounces of gold. If this contract were priced at $415 and the spot price of gold were to rise quickly to $450 per ounce. the contract might rise to a price of $465. By “buying” the futures contract at $415 and closing it out at $465. the same $5,000 profit is obtained: If only a $2,500 margin deposit were needed to enter into this contract, the $5,000 profit would represent a 200% return on this cash deposit in the minds of some speculators. However, this exaggerates the true rate of return; because of the daily settlement requirements of a futures contract, the speculator actually has much more at risk than the initial margin requirement. The ratio of the profit to the amount of funds that were potentially at risk, rather than the ratio of the profit to the cash that was put up as a “security deposit,” is the correct way to measure his or her return on investment. Forward contracts can also be used to accomplish the same objective. For example, assume that the speculator decided to buy 100 ounces of gold, 9 months forward, at a forward contract price of $415 per ounce. If the price of gold quickly rose to $450 per ounce, and the value of the forward contract also rose by $50 to $465, the speculator would have an unrealized “paper” profit of the same $5,000: However, unlike futures contracts that are liquid and can be closed out at any time before settlement, forward contracts are illiquid and, therefore, might have to be held until settlement day. Therefore, in order to “lock in” the $5,000 profit on the forward contract, it might be necessary for the holder of the long position in the contract to enter into another “offsetting” forward contract by selling 100 ounces of gold forward (settling on the same day as the
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