Pros and Cons of Futures Trading

Futures trading is amongst today’s most highly leveraged, potentially profitable financial pursuits. It allows traders to build up their trading accounts fast with only a small amount of capital at their disposal. However, if you take futures trading lightly, you could also wipe out your trading account in a matter of days. Therefore, it’s crucial to your trading success that you diligently educate yourself in futures trading, and trade only with a proven and solid trading strategy.

If you’re new to futures trading, it can be especially difficult to decide WHICH contracts to actually trade. There are a lot of options! The best approach would probably be to start with the more popular commodities, until you have a better idea of which contracts most fit you and your trading.

The more you know about the basics of futures contracts and commodities like this, the better your chances of trading success. With any type of online trading, there are a number of factors that you should take into account. Here are four of those factors, along with an assessment of how futures trading measures up:

1.) The Capital Requirements

In order to trade a futures contract, you need to deposit an initial investment into your futures trading account. Currently, brokers require a minimum of $5,000, though some brokers are willing to open an account with as little as $2,000.

2.) The Leverage

The leverage depends on the futures contract you’re trading and the contract value. Each contract requires an initial margin. Here are some examples for the most popular contracts (as of January 2008):

E-mini S&P – as low as $500 to trade a $75,000 contract
(Leverage 1:150)

E-mini NQ – as low as $500 to trade a $45,000 contract
(Leverage 1:90)

E-mini Gold – as low as $400 to trade a $27,000 contract
(Leverage 1:67.5)

3.) Liquidity

Again, the liquidity depends on the futures contract you are trading. Here are some numbers:

E-mini S&P: around 2,500,000 contracts/day
E-mini NQ: around 500,000 contracts/day
Euro Currency: around 200,000 contract/day

As you can see, the liquidity varies, and therefore you MUST check the volume of the futures market you are planning to trade.

4.) Volatility

You will find decent volatility in the futures markets. The high leverage will allow you to make decent profits, even if the markets move just a few points. Here are some average daily moves:

E-mini S&P: between 1% and 3% per day
E-mini NQ: between 1% and 2.5% per day
E-mini Gold: between 1% and 2.5% per day
Euro Currency: between 0.5% and 1.5% per day

Keep in mind that these moves represent approximately $500-$1,500 per day for each contract traded.

Conclusion:

Futures markets can be very liquid, and the capital requirements are as low as $2,000. The leverage is at least 1:50, and there’s decent volatility.

Futures markets are regulated and the spread is typically 1 tick (minimum movement of the contract). Commissions are usually below $5 per transaction. It’s no surprise that many day traders choose the futures market for their trading endeavors.