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eToroHow to Trade Futures
Written by Andrew Rocco
Fact-checked by Joey Shadeck
Edited by John Bringans
Futures contracts are agreements between two parties to buy or sell an asset at a future date. These contracts are traded on futures exchanges to ensure consistency and are available for a wide range of assets, such as commodities like oil and silver, stock indexes like the Nasdaq and S&P 500, interest rates, volatility, and even Bitcoin.
In my guide to trading futures, I’ll dig into futures contracts and common futures markets, go over some of the more popular futures trading strategies, and give a breakdown of how to get started trading futures.
What is Futures Trading?
Futures trading involves purchasing and selling futures contracts – agreements to buy or sell an asset at a set price on a future date. Futures traders can utilize futures contracts to either hedge against price fluctuations or speculate on market movements by agreeing on a price in the present.
Hedgers, such as producers and consumers of commodities, can use futures in an attempt to fix prices, stabilize revenues or costs, mitigate the risk of price fluctuations, and add predictability to their businesses. For example, a farmer might sell wheat futures before harvest to secure a price, while a food manufacturer might purchase wheat futures to lock in raw material costs.
On the other hand, institutional investors or retail traders may use futures for speculation and attempt to profit from volatility and price trends. When trading futures, speculators can use leverage to manage positions with only a portion of the total contract value, which can increase both profits and losses.
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Understanding Futures Contracts
Futures contracts are far more complex than investments in a company’s common stock. Here's an overview of some important futures trading concepts:
Contracts: Each futures contract outlines the amount and quality of the underlying asset, the delivery date, and the price. Standardizing these terms promotes uniformity and minimizes confusion between buyers and sellers.
Trading: Futures contracts are tradable on platforms such as the Chicago Mercantile Exchange (CME). Traders can opt for either a long position (committing to buy the asset in the future) or a short position (committing to sell the asset in the future). Trading occurs through brokerage accounts (see our picks for the best brokers), and prices fluctuate based on supply and demand dynamics and market expectations.
Settlement: Futures contracts can be settled through the delivery of assets or a cash settlement. In delivery, the physical product is handed over at the end of the agreement. However, in cash settlement, individuals receive a sum equal to the difference between the agreed price and the market value at expiration, without any actual transfer of goods taking place.
Margins: Traders must provide margin – a percentage of the contract value – as a deposit when entering into a futures contract. Margins may be adjusted regularly based on price changes, known as mark-to-market.
A special delivery?
Most futures contracts are closed out or rolled over before the delivery date, with only a small percentage—typically less than 2%—resulting in physical delivery. Cash settlement is preferred for its convenience and efficiency.
Common Futures Markets
The futures market covers a variety of underlying assets. Here are some of the most common asset categories in the futures market:
Commodity futures
Agriculture: This category includes futures contracts for crops such as wheat, coffee, and sugar, as well as livestock like hogs and cattle.
Energy Commodities: Futures related to oil, natural gas, gasoline, and heating oil fall under this classification.
Metals: This category encompasses precious metals (gold, silver, platinum) and industrial metals (copper, aluminum).
Futures vs options
Options are another type of advanced derivative like futures, but with a key difference: while futures obligate the buyer to purchase the underlying asset, options give the buyer the right to do so without the obligation. Check out our comprehensive guide on how to trade options to learn more.
Financial Futures
Stock Index Futures: These contracts are tied to stock market indexes such as the S&P 500, Dow Jones, and Nasdaq.
Currency Futures: Includes popular currencies such as the U.S. dollar, euro, yen, and pound sterling. Bitcoin and Ethereum, the world’s two most prominent cryptocurrencies, also have futures available to trade.
Interest Rate Futures: These contracts involve government bonds, like U.S. Treasury bonds and various interest rate instruments.
Currency trading
Interested in trading currencies? Head over to our guide to the best forex brokers in the U.S.
Pros and Cons of Futures Trading
Futures trading presents a unique set of advantages and disadvantages. Check out some of the pros and cons of futures trading below:
Pros of trading futures
Liquidity. Futures markets, especially those dealing with popular commodities and financial instruments, have high liquidity levels. Liquidity allows traders to quickly enter and exit positions without suffering slippage or poor fills.
Margin. Futures trading offers traders the opportunity to control positions using an amount of capital known as margin. This leverage can lead to increased profits if the market moves in the trader’s favor.
Range of assets. Trading futures can open up a new range of assets that traders might not typically deal in, such as commodities or currencies. Because roughly 75% of a stock’s move is correlated to the overall market, stock-focused investors can gain much-needed diversification through futures markets.
Cons of trading futures
Illiquid futures markets increase volatility, which can make it challenging for brokers to execute trades at expected prices.
Leverage is risky. High levels of leverage can introduce catastrophic risk if a trade goes in the wrong direction.
Knowledge and experience are required. The intricacy and unpredictability of futures markets can present risks to inexperienced traders. Judgment errors can result in substantial losses.
Beginners and futures trading
Spreading investments across markets demands knowledge and continuous position monitoring, which may lead to worse trading outcomes. Beginner investors may want to avoid futures trading.
Getting Started with Futures Trading
Check out our step-by-step guide to getting started with futures trading:
- Choose a reputable broker. Find a futures broker that offers the best pricing, investment options, features, and tools (check out our guide to the best futures brokers). Once you've chosen a broker, you'll need to open a funded brokerage account with margin and futures trading approval.
- Get familiar with your broker's platform. Before jumping into the complicated business of futures trading, you'll want to make sure you are comfortable with your broker's trading software. I recommend starting with paper trading to try out the platform without risking your funds.
- Fund your trading account. As I mentioned above, a margin account is required to trade futures with an online broker. Unlike a margin loan to buy stocks, futures margin is a deposit against potential losses.
- Put together a trading plan. Even the best traders can lose money, but the key to long-term success lies in sticking to a trading plan. Customize your plan for your own objectives, risk parameters, and trading style. Note: Sound risk management principles are important aspects of any trader's strategy.
- Start trading futures. Now, you should be ready to start trading futures! That said, be wary; futures trading is risky. Potential profits (and losses) are tied to the tremendous leverage in futures contracts. Leverage magnifies even the smallest movements of an index or underlying asset.
Approval may be required
Many brokers require prospective futures traders to be approved before trading, assessing factors like financial stability, trading experience, and risk tolerance to ensure the trader understands the risks involved in futures markets.
Futures Trading Hours
Futures markets are typically available for trading around the clock, six days a week, starting from Sunday evening to Friday afternoon. Nonetheless, trading hours may differ based on the type of asset being traded. Be sure to confirm each futures market’s hours of operation before trading.
Common Futures Trading Strategies
Each trader’s futures trading strategy can differ significantly based on their objectives, experience, account size, and risk appetite. Below, you’ll learn more about some of the most common futures trading strategies:
Trend Following
Trend followers track prevailing market trends by purchasing during price uptrends and selling during downtrends. This approach relies on indicators like moving averages, moving average crossovers (such as a “Golden Cross”), and trendlines to determine when to enter and exit positions.
Day Trading
Day traders buy and sell futures contracts within the same trading day. To succeed in this approach, one needs a grasp of how the market operates, technical analysis skills, and the ability to make swift decisions.
Swing Trading
Unlike day traders, swing traders hold on to their futures positions for days to weeks, aiming to take advantage of medium-term price trends. This strategy often leverages fundamental analysis to spot and capitalize on market trends.
Position Trading
Those involved in position trading opt for longer-term commitments by holding onto futures contracts for weeks, months, or even years. This style relies heavily on analysis and research to identify market trends and potential price shifts.
Arbitrage
Arbitrage is a trading method that takes advantage of price differences between markets or exchanges. For example, if the price of Bitcoin is vastly different on one exchange from another, an arbitrage futures trader may purchase a futures contract in one market while selling a contract in another market to turn a profit from the variation in prices. This approach necessitates transactions and a substantial amount of capital. Also, arbitrage traders must take into account trading fees.
Reversion-to-the Mean
A reversion-to-the-mean trade is a trading approach centered on the concept that asset prices or other financial indicators typically gravitate back to their average or mean over a period. Traders employing this method seek out assets that have strayed considerably from their average and make trades with the expectation of a return to “normalcy.”
Contrarian
This tactic involves fading the crowd (taking the opposite side of a more popular bet) by purchasing futures contracts when the majority are selling or selling futures contracts when most traders are buying. Contrarian traders hold the belief that markets tend to overreact, and by adopting positions opposite to the crowd, they can profit when the market eventually corrects itself.
FAQs
What is margin in futures trading?
Traders need to put down a specific amount of money with their broker – known as "margin" – when they want to start or hold onto a futures position. This money serves as collateral with the broker for a larger position. The initial margin is usually just a small portion of the contract's total value, giving traders extra buying power. There are two kinds of margin: initial margin, which is needed to open a position, and maintenance margin, which needs to be kept up to avoid closing the position. If the account balance drops below the maintenance margin because prices move against them, traders will either have to add funds (this is known as a margin call), or the broker will forcibly close out the position for them.
How much money do you need to trade futures?
The funds required for trading futures can differ based on the contract and the criteria set by the broker. For example, Interactive Brokers charges as little as $0.08 per Small Exchange futures contract. There are also E-Mini and E-Micro contracts and there are often options on futures contracts available. Each broker has its own unique pricing. Traders usually must fulfill the margin requirement determined by the futures exchange, which is typically a percentage of the contract’s value ranging from a few hundred to several thousand dollars per contract. Moreover, brokers may have their minimum deposit prerequisites, for account opening, which can vary significantly. A trader must also have funds in reserve beyond the margin requirement to handle losses and potential margin calls.
Where can I practice futures trading?
Paper trading accounts– a way for beginner traders to practice trading without risking funds – can help beginners become familiar with the mechanics of researching, buying and selling investments. These platforms give you imaginary funds and up-to-date market information, enabling you to test out trading strategies without putting actual money at stake. A great stepping-stone approach is to start off with paper trading, and then invest small amounts of your own money. Note that futures trading is risky, and may not be suitable for traders who are still learning the ropes. If you want to do some practice trading, check out our guide to the best paper trading platforms or check out some of our top picks for paper trading (free trading) platforms below:
What is the best futures trading platform?
Tastytrade is our top choice for futures trading – particularly for casual futures traders. Tastytrade’s platform boasts powerful tools and an easy-to-use layout. Futures pricing at tastytrade is competitive and the broker’s commissions for options trading are even better. Traders who love charts will love tastytrade, but it’s worth noting that research-based resources like news headlines and commentary are sparse. Check out our tastytrade review to learn more.
We tested tastytrade’s futures offering and found the following pricing information:
- Futures: $1.25 per contract.
- Micro: $0.85 per contract.
- Small: $.25 per contract.
- Futures options: $2.50 to open, $0 to close.
- Micro futures options: $1.50 to open, $0 to close.
- Smalls futures options: $0.50 to open, $0 to close.
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About the Editorial Team
Andrew is a writer with more than two decades of investing experience and a B.A. in Economics from the University of Miami. Andrew believes in combining technical analysis, fundamental analysis, and strict risk management principles to formulate his decisions. He has held various positions in the financial industry, including stock strategist, Senior Manager of Educational Content, and portfolio manager.
Joey Shadeck is the Content Strategist and Research Analyst for StockBrokers.com. He holds dual degrees in Finance and Marketing from Oakland University, and has been an active trader and investor for close to 10 years. An industry veteran, Joey obtains and verifies data, conducts research, and analyzes and validates our content.
John Bringans is the Senior Editor of StockBrokers.com. An experienced media professional, John has close to a decade of editorial experience with a background that includes key leadership roles at global newsroom outlets. He holds a Bachelor’s Degree in English Literature from San Francisco State University, and conducts research on forex and the financial services industry while assisting in the production of content.