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UNDERSTAND FUTURES TRADING AND HOW TO BE SUCCESSFUL

Updated: Sep 21

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Many people wonder if they are ready to trade futures and becoming wealthy. Are you prepared to learn this dynamic market?


Futures do not trade like stocks or shares. They trade in standard contracts set by the futures exchange it trades on. For instance, the contract size for gold futures is 100 ounces. That means when you are buying one futures contract of gold, you are really getting 100 ounces of gold. If the price of gold moves up $1 an ounce, the position will be affected by $100 ($1 x 100 ounces). You need to check each commodity or futures contract since each of them is unique. Other than precious metals, you can trade futures of individual stocks, shares of market indices, Exchange Traded Funds (ETF)s, bonds, interest rates, crude oil and agriculture commodities.


Below lists of top ten most liquid future contracts traded:


  1. S&P 500 E-mini (ES) – track the S&P500 Index

  2. 10 Year T-Notes (ZN)- track the underlying cash market of the 10-year Treasury note issued by the U.S. Department of Treasury. It is not too short and therefore resilient to short-term interest rates by the Federal Reserve.

  3. Crude Oil (CL) - Most popular commodity, known for its volatility and knee-jerk reactions to news events.

  4. 5-Year T-Notes (ZF) - track the underlying cash market of the 5-year Treasury note issued by the U.S. Department of Treasury influenced by Federal Reserve’s monetary policies futures like most short-term interest rate or Treasury instruments.

  5. Gold (GC) - tracks the underlying spot gold. They are popular hedging choice against global currencies and poor market conditions.

  6. EuroFx (6E) - other versions of include the E-mini and the E-micro.

  7. 30-year T-Bonds (ZB)- represent the 30-year maturity on interest rates.

  8. Japanese Yen (6J)

  9. 2-year T-Notes (ZT)- track the underlying markets of the 2-year T-note bonds.

  10. Eurodollars (GE) - interest-bearing bank deposits that are denominated in U.S. dollars but held at banks outside the United States.


The future contract comprises of two parties: One buyer agrees to purchase a given quantity of securities or commodities and take delivery on a certain future date. The seller to the contract agrees to provide this. Futures contracts allow players to secure a specific price and protect against the possibility of price fluctuations ahead.


The futures market is used by various financial players, including investors and speculators as well as companies that actually want to supply and deliver the commodity. Consider refined oil futures: which comprises of products such as gasolines, diesels, naphtha, and kerosene (jet fuel). In case of jet fuel: a commercial airline desires to lock in jet fuel prices to protect themselves against a future unexpected increase could buy a futures contract agreeing to buy specific amount of jet fuel for delivery in the future at an agreed price. A fuel distributor may sell a futures contract to ensure it gets uninterrupted market for fuel and to protect against an unexpected decrease in jet fuel prices. Both sides agree on specific terms: e.g. transact 1 million gallons of fuel, to deliver in 90 days, at a price of $100 per gallon. Here both parties are hedging their respective positions, they need to trade the underlying commodity use the futures market to manage their exposure to the risk of price changes. Futures trading is a zero-sum game: when one party gains, the other party loses.


But not everyone in the futures market wants to exchange a product. There are investors or speculators, who seek to make money from price movements in the contract itself. If the price of jet fuel rises, the futures contract which was bought at lower price becomes more valuable, and the owner of that contract could sell it for a higher price in the futures market. These types of traders transact the future contract with no intention of taking delivery of the underlying commodity.

With many parties: speculators, investors and hedgers all buying and selling these contracts daily at huge volumes, there is a highly liquid market for these contracts.


Some traders like trading futures because they can make a substantial position while putting up a relatively low amount of capital, giving them greater potential for leverage than just owning the securities directly.


Most investors buy an asset anticipating that its price will go up in the future but investors can also short sell: borrow money to bet that price of asset will fall so they can buy later at a lower price. One common application in the U.S. stock market: investors desiring to hedge exposure to stocks may short-sell a futures contract on the S&P 500 Index. If stock prices decline, he makes money on the short sell, balancing out his exposure to the index. The same investor may feel confident in the future and predict that stock prices rise instead; he may decide to buy a long contract to gain upside if stocks move higher.


Many speculators borrow funds to trade the futures market because they can magnify relatively small price movements to potentially create profits that justify the time and effort. Borrowing money increases risk: If markets move against your position more dramatically than expected, there is potential lose more than what was invested.


Leverage and margin rules are more liberal for futures and commodities trading than for securities trading. A commodities broker may allow you to have leverage as high as 10:1 depending on the contract, much higher than you could obtain for trading security instruments such as stock. The higher the leverage, the higher the potential gain or loss. For instance, a 1 percent price change can cause an investor leveraged 10:1 to gain or lose 10 percent of investment. The presence of price volatility means that speculators need the discipline to avoid overexposing themselves to any undue risk when trading futures. If such risk seems too much and you are looking for another way to diversify your investment strategy, consider options instead.


Long-term success in futures trading comes from mastering three disciplines, (which is also applicable to securities trading):

  1. Follow a proven trading process

  2. Establish proper fund management techniques (include portfolio and risk management)

  3. Learn trading psychology – to control your emotions


Trading Process

  • Decide if you are trading on longer or shorter timeframe.

  • Study both fundamental or technical analysis, including market trends. Most professional traders use both a mix of both. One method to evaluate a potential position, and another to confirm.

  • Do you have an industry knowledge? For example you work in agriculture and have advantage to know in detail the factors that impact the prices of corn, wheat, soybeans or livestock.

  • Formulate a well defined trading plan which you will use without exception. This trading plan needs to incorporate both bull and bear and even market neutral strategies.


Portfolio and Risk Management

  • Define and articulate your own risk - reward procedure to be implemented. How much capital are you prepared to lose per transaction and how you enforce this?

  • Decide how aggressive or defensive from your own perspective.

  • Maintain consistency by maximizing your winning trades and minimizing your losing ones. Formulate how to reduce your trading risk by using position sizing or stop losses when necessary.


Trading Psychology

  • Develop confidence in trading by using research or intuition? Learn not to follow trading leads without making your own critical decision.

  • Develop habit not to trade when unsure, or under duress.

  • When the trading position turns against you, do you react by following your trading plan to close the transaction or do you change your mind to hope for better outcome? If you lack discipline and not follow your trading plan, you are setting the stage for larger loss. Never let the emotions of greed or fear enter your trading process.


After careful considerations, ask yourself if you are ready to proceed. Embark on the journey with full awareness of what you are getting into. Open a trading account and fund it. Some online brokers let you practice trading with “paper money” before you commit real money This is an invaluable way to check your understanding of the futures markets and how the margin, leverage and commissions interact in your portfolio. It is recommend spending some time trading in a virtual account to test different strategies until you are familiar.


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