Stock index futures can give insight into the trading day

ByABC News
June 18, 2012, 8:49 PM

— -- Q: What are stock index futures? Are they a good crystal ball into how stocks will behave when the trading day starts?

A: Traders don't operate in the dark when the trading day starts. They have a pretty good inkling of what stocks will do when the market opens.

The reason? The stock index futures market. What are stock index futures? First, a quick definition of futures. Futures are contracts that require traders to buy or sell assets at a set price at a set date in the future.

Futures caught on in agriculture by allowing farmers and other food producers to lock in the prices they would get for crops even before harvest time. Futures contracts allow investors to "hedge," or protect themselves in case of big moves in the price of an asset in the future.

There are futures contracts that allow investors to hedge all sorts of things, ranging from hog bellies to oil and even the weather. But there's also a separate class known as stock index futures. These are contracts that obligate an investor to buy or sell a stock at a set price in the future.

They're based on traders' anticipation of what trading will look like in the future of major market indexes, such as the Dow Jones industrial average and Standard & Poor's 500, for instance. There are also stock index futures based on major indexes around the world.

Due to the large size of the stock index futures market, it can give a pretty reliable indication of what traders are expecting the market to do when it opens. The regular trading session often takes a cue from action in the futures market.

But don't make the mistake of reading too much into the futures market and what it means to stocks. The stock index future price is the market's consensus on how the market will open. Sometimes it's dead-on with the actual market open, but other times, it's not.

Also, keep in mind that much can happen from minute to minute, and stocks can swing dramatically by the time the market closes.

If you're interested in monitoring stock index futures on major U.S. indexes, it's very easy using USATODAY.com. On the front page of USATODAY.com's Money section, you'll find an update on all the major U.S. stock market futures markets until the market opens for regular trading.

Matt Krantz is a financial markets reporter at USA TODAY and author of Investing Online for Dummies and Fundamental Analysis for Dummies. He answers a different reader question every weekday in his Ask Matt column at money.usatoday.com. To submit a question, e-mail Matt at mkrantz@usatoday.com. Follow Matt on Twitter at: twitter.com/mattkrantz