What Is Online Futures Trading? A futures contract is an agreement to buy or sell a commodity at a date in the future. Everything about a futures contract is standardized except its price. All of the terms under which the commodity or financial instrument is to be transferred are established before active trading begins, so neither side is hampered by ambiguity. The price for a futures contract is determined in the trading pit or on the electronic trading system of a futures exchange.
The internet now allows access to those electronic trading systems from anywhere in the world. This increases liquidity in those markets and makes them even more attractive to traders.
Trading on all futures exchanges takes place against a backdrop of statutory regulation and rules as laid down by each exchange and the Commodity Futures Trading Commission (CFTC). Regardless of whether your trading is executed within the trading pit or electronically, it is subject to the same rules, regulations and safeguards.
Advantages of online futures trading
Leverage. Futures operate on margin, meaning that to take a position only a fraction of the total value needs to be available in cash in the trading account.
Commission Costs. Electronically traded futures contracts require no human intervention to match buy and sell unlike a traditional futures pit. This means that commission costs can be cut dramatically, leading to significant savings for the frequent trader.
Liquidity. The involvement of speculators means that futures contracts are reasonably liquid. However, how liquid depends on the actual contract being traded. Electronically traded contracts, such as the e-mini's tend to be the most liquid whereas the pit traded commodities like corn, orange juice etc are not so readily available to the retail trader and are more expensive to trade in terms of commission and spread.
Ability to go short. Futures contracts can be sold as easily as they are bought enabling a trader to profit from falling markets as well as rising ones. There is no 'uptick rule' for example like there is with stocks. No 'Time Decay'. Options suffer from time decay because the closer they come to expiry the less time there is for the option to come into the money. Futures contracts do not suffer from this as they are not anticipating a particular strike price at expiry.
Automated trading. Electronic futures brokers offer the facility to programmers to interface directly with their trading software. This means that custom written trading software can automatically trade a strategy without any human intervention at all. A system can make buy/sell signals which are automatically routed to the exchange along with any stops and targets. Almost instant fills. With electronically traded futures there is no need to call up a broker and wait for a fill from the trading floor. Orders are instantly placed on the electronic order book and filled as soon as a match is found - for liquid contracts such as the emini S&P500 this will be within a second.
Level playing field. With traditional pit traded futures the professional in the pit has a major advantage over the retail trader in terms of speed of execution and costs. Electronic futures trading offers all participants exactly the same advantages.
Disadvantages of online futures trading
Leverage. Can be a disadvantage if it encourages trading with too high a risk for a particular strategy. A carefully devised money management plan is essential.
Overtrading. The instant nature of electronic futures trading coupled with low commission costs and tight spreads can encourage a trader to take additional trades to those determined by their trading plan.
Online futures trading offer significant benefits to the retail trader. However, a carefully developed trading plan must be formulated before attempting to enter this extremely competitive business.
Showing posts with label ADVANTAGES AND DISADVANTAGES. Show all posts
Showing posts with label ADVANTAGES AND DISADVANTAGES. Show all posts
Saturday, September 13, 2008
Commodity Trading - Advantages and Disadvantages
Commodity futures markets allow commercial producers and commercial consumers to offset the risk of adverse future price movements in the commodities that they are selling or buying.
In order to work a futures contract must be standardized. They must have a standard size and grade, expire on a certain date and have a preset tick size. For example, corn futures trading at the Chicago Board of Trade are for 5000 bushels with a minimum tick size of 1/4cent/bushel ($12.50/contract).
A farmer may have a field of corn and in order to hedge against the possibility of corn prices dropping before the harvest he might sell corn futures. He has locked in the current price; if corn prices fall he makes a profit from the futures contracts to offset the loss on the actual corn. On the other hand, a consumer such as Kellogg may buy corn futures in order to protect against a rise in the cost of corn.
In order to facilitate a liquid forex market so that producers and consumers can freely buy and sell contracts, exchanges encourage speculators. The speculators objective is to make a profit from taking on the risk of price fluctuation that the commercial users do not want. The rewards for speculators can be very large precisely because there is a substantial risk of loss.
Advantages of commodity trading
Leverage. Commodity futures operate on margin, meaning that to take a position only a fraction of the total value needs to be available in cash in the trading account.
Commission Costs. It is a lot cheaper to buy/sell one futures contract than to buy/sell the underlying instrument. For example, one full size S&P500 contract is currently worth in excess off $250,000 and could be bought/sold for as little as $20. The expense of buying/selling $250,000 could be $2,500+.
Liquidity. The involvement of speculators means that futures contracts are reasonably liquid. However, how liquid depends on the actual contract being traded. Electronically traded contracts, such as the e-mini's tend to be the most liquid whereas the pit traded commodities like corn, orange juice etc are not so readily available to the retail trader and are more expensive to trade in terms of commission and spread.
Ability to go short. Futures contracts can be sold as easily as they are bought enabling a speculator to profit from falling forex trading markets as well as rising ones. There is no 'up tick rule' for example like there is with stocks.
No 'Time Decay'. Options suffer from time decay because the closer they come to expiry the less time there is for the option to come into the money. Commodity futures do not suffer from this as they are not anticipating a particular strike price at expiry.
Disadvantages of commodity trading
Leverage. Can be a double edged sword. Low margin requirements can encourage poor money management, leading to excessive risk taking. Not only are profits enhanced but so are losses!
Speed of trading. Traditionally commodities are pit traded and in order to trade a speculator would need to contact a broker by telephone to place the order who then transmits that order to the pit to be executed. Once the trade is filled the pit trader informs the broker who then informs his client. This can take some take and the risk of slippage occurring can be high. Online futures trading can help to reduce this time by providing the client with a direct link to an electronic exchange.
Tim Wreford operates Online Futures Trading, a website that provides information and resources for traders. Tim also provides an article detailing the development of a day trading system, the results of which are updated daily on the site.
In order to work a futures contract must be standardized. They must have a standard size and grade, expire on a certain date and have a preset tick size. For example, corn futures trading at the Chicago Board of Trade are for 5000 bushels with a minimum tick size of 1/4cent/bushel ($12.50/contract).
A farmer may have a field of corn and in order to hedge against the possibility of corn prices dropping before the harvest he might sell corn futures. He has locked in the current price; if corn prices fall he makes a profit from the futures contracts to offset the loss on the actual corn. On the other hand, a consumer such as Kellogg may buy corn futures in order to protect against a rise in the cost of corn.
In order to facilitate a liquid forex market so that producers and consumers can freely buy and sell contracts, exchanges encourage speculators. The speculators objective is to make a profit from taking on the risk of price fluctuation that the commercial users do not want. The rewards for speculators can be very large precisely because there is a substantial risk of loss.
Advantages of commodity trading
Leverage. Commodity futures operate on margin, meaning that to take a position only a fraction of the total value needs to be available in cash in the trading account.
Commission Costs. It is a lot cheaper to buy/sell one futures contract than to buy/sell the underlying instrument. For example, one full size S&P500 contract is currently worth in excess off $250,000 and could be bought/sold for as little as $20. The expense of buying/selling $250,000 could be $2,500+.
Liquidity. The involvement of speculators means that futures contracts are reasonably liquid. However, how liquid depends on the actual contract being traded. Electronically traded contracts, such as the e-mini's tend to be the most liquid whereas the pit traded commodities like corn, orange juice etc are not so readily available to the retail trader and are more expensive to trade in terms of commission and spread.
Ability to go short. Futures contracts can be sold as easily as they are bought enabling a speculator to profit from falling forex trading markets as well as rising ones. There is no 'up tick rule' for example like there is with stocks.
No 'Time Decay'. Options suffer from time decay because the closer they come to expiry the less time there is for the option to come into the money. Commodity futures do not suffer from this as they are not anticipating a particular strike price at expiry.
Disadvantages of commodity trading
Leverage. Can be a double edged sword. Low margin requirements can encourage poor money management, leading to excessive risk taking. Not only are profits enhanced but so are losses!
Speed of trading. Traditionally commodities are pit traded and in order to trade a speculator would need to contact a broker by telephone to place the order who then transmits that order to the pit to be executed. Once the trade is filled the pit trader informs the broker who then informs his client. This can take some take and the risk of slippage occurring can be high. Online futures trading can help to reduce this time by providing the client with a direct link to an electronic exchange.
Tim Wreford operates Online Futures Trading, a website that provides information and resources for traders. Tim also provides an article detailing the development of a day trading system, the results of which are updated daily on the site.
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