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What is the Relationship Between Price of Share and Price of Futures?

Original post by Jonathan Langsdorf of Demand Media

The futures values in terms of the stock market are influenced by the function of futures as derivative financial products. Stock market futures are the subject of news coverage during the morning period before the stock market opens. Many market participants use the pre-market futures values as indicators of how the stock market will perform for the day.

Stocks and Stock Indexes

The stock market is made up of thousands of individual stocks that trade each market day. The share price of an individual stock is based on investor supply and demand, moving up or down in value each day. A stock market index tracks the value changes of a specified group of stocks. The widely followed Dow Jones Industrial Average -- DJIA -- tracks 30 stocks. The S&P 500 index includes 500 stocks. Market commentary on whether the stock market is up or down is primarily based on the changes in these stock market indexes. An individual stock may perform better or worse than a stock market index.

Equity Index Futures

It is not possible to directly invest in or trade a stock market index. Traders must use derivative financial products to attempt to profit from changes in the market indexes. Equity index futures are one form of stock market derivative. A stock futures contract value is based on a specific stock market index. For example, the DJIA futures contract is worth 10 times the value of the DJIA stock index. A trader who believes the stock market will go up can buy or go long on this futures contract. Entering a sell or short order allows the trader to profit from falling stock prices.

Futures Values

The price quote of a stock index futures contract will closely track the value of the underlying stock index. The profit or loss on a futures contract is based on the specific stock index the futures tracks. While the stock market is open, the future value and the stock index value will be essentially the same. The U.S. stock exchanges are open from 9:30 to 4:00, Monday through Friday, excluding holidays.

Futures After Hours

In contrast to the stock markets, the futures markets trade 23.5 hours a day, 5.5 days a week, starting late Sunday afternoon. This means the futures are trading overnight while the stock market is closed. During the overnight trading, the value of stock index futures will fluctuate based on where traders believe the stock markets will open the next morning. In the morning, before the stock market opens, investors, traders and news commentators look at the futures prices as indicators of how the market will perform for the day.

                   

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About the Author

Jonathan Langsdorf has been writing financial, investment and trading articles and blogs since 2007. His work has appeared online at Seeking Alpha, Marketwatch.com and various other websites. Langsdorf has a bachelor's degree in mathematics from the U.S. Air Force Academy.

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