So, you are interested in trading futures, first things first…what is a futures market?
Futures are standardized contracts for the purchase and sale of financial instruments or physical commodities for future delivery on a regulated commodity futures exchange. Below are some examples of futures contracts:
- Agriculture: Corn, Wheat, Soybeans and Livestock
- Interest Rates: Bond & Note Projections traded over various timeframes such as 5, 10 and 30
- Energy: Crude Oil and Natural Gas
- Metals: Gold, Silver and other Precious Metals
- Stock Index: S&P 500, DOW Jones Industrial Average and NASDAQ
- Spot Currency: Euro, U.S. Dollar plus other major currencies
This diverse mixture of trading instruments provides opportunities to trade in virtually all market conditions.
Now that we’ve established the root of a Futures Contract, below you’ll find some unique benefits to trading futures as opposed to other markets such as stocks or forex.
Leverage on futures contracts is created using performance bonds, commonly referred to as Margin, which is the amount of money deposited by both the buyer and seller of a futures contract to ensure their performance of the contract terms. The performance bond may represent only a fraction of the total value of the contract, often 3-12 percent, making futures a highly leveraged trading vehicle. This means that futures contracts represent a large contract value that can be controlled with a relatively small amount of capital providing the trader with greater flexibility in capital efficiency. Conversely, increased leverage also creates more risk potential, this leverage/risk relationship should be well understood before trading futures.
The majority of futures markets are highly liquid. By providing electronic access to a broad spectrum of products in a centralized arena, markets attract a wide range of participants who trade millions of contracts on a daily basis. This volume makes it easy for traders to execute trades of virtually any size efficiently without a substantial change in price.
3. Lower Minimum Account Balance
SEC pattern day trader rules dictate that a pattern day trader must fund an account with $25,000 and maintain this as minimum balance. Because futures trading does not include a pattern day trading rule, the cost to fund an account is substantially lower. Regardless, only risk capital should be used for trading no matter which financial instruments are traded.
4. Regulation and Transparency
Futures markets are regulated by the U.S. Commodity Futures Trading Commission (CFTC), which is an independent government agency formed to foster open, competitive and finically sound futures markets. Additionally, the CFTC protects market participants and the public from any fraud, manipulation or abusive practices.
The National Futures Association (NFA) is a self-regulatory organization for the U.S. Derivatives Industry which includes futures. The NFA has developed and enforced rules, and offered services that help protect market investors for over 30 years.
Since futures markets are regulated, financial statements are provided and all client funds are held in segregated accounts.
Additionally, futures are traded in a centralized marketplace where all prices are known to everyone. Trading is open, fair and anonymous. Comprehensive price and transaction data is distributed in real-time providing individuals with a clear view into every single transaction.
5. Tax Advantages
Trading futures may also offer specific tax advantages compared to other instruments such as stocks. Discussing these potential advantages with your tax advisor can help you understand if there are tax benefits for you.
To explore the key concepts to trading futures such as going long or short, point vs tick values and trade management, watch the following quick video:
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