How to be an oil futures speculator [View all]

[Owlet]

"Simple. You take an option to say, SELL oil in three month’s time. Let’s say the current price is $98 a barrel and the 3-month future price is $103. You think this is hogwash and the price is going to drop to less than $85 within three months. You sell March oil at $103. You pay a deposit to secure ‘your’ oil sale as you paid to secure your oil purchase.
How on earth can you sell oil you don’t have? Simple. Your sell order guarantees a buyer of ‘your’ oil in March at $103 – in effect, someone has contracted to buy your oil at $103 a barrel in March. This is someone betting against you, buying March oil at $103/barrel, just like you did in the first example. Come March, you MUST buy your oil at $103/barrel, or pay you the difference between the March price and $103.

If the price in March is only $85 a barrel (as you predicted) then you just buy oil at $85 a barrel (the current price) and sell it to the guy who contracted (unwisely) to buy it from you at $103! You pocket the $18 difference! Of course, no oil ever changes hands. This is just a paper exercise. Also, oil is just one of thousands of possible futures ‘plays’ you could make. There is nothing special about oil. I am just using this as an example.

Who is the ‘mug’ who contracted to buy from you at $103. Why, just another punter, like you buy who thought the opposite to you. He thought the price was going to $120 and then YOU were the ‘mug’ for contracting to sell him March oil at ‘just’ $103 a barrel. He was looking forward to scamming you out of your oil at the giveaway price of $103, and selling it immediately for $120 and pocketing the $15 difference. He could have been right, of course. In which case, he would have won, you would have lost. This is just 1 barrel of oil but imagine if you had to buy 1000 barrels at $103 and sell to him at $120, thus losing $17,000! Ouch!"

http://www.financial-spread-betting.com/academy/selling-short.html