Futures trading involves the manipulation of derivative financial products, which are used to bet on changes in the price of financial assets. In this comprehensive guide, we'll explore the different types of futures, the benefits of futures trading, key principles, strategies for success, risk management, choosing the right trading platform, the role of technology and essential tips for newcomers to the futures market.
Futures: definition of futures contracts
Futures trading is a complex but potentially lucrative business for investors.
Forward contracts, also known as futures, are derivative financial instruments that oblige the buyer to buy and the seller to sell an underlying asset at a predetermined future date and at a pre-agreed price.
These contracts are standardized and traded on organized markets, offering investors the opportunity to speculate on price movements of the underlying assets or to hedge against the risks associated with price fluctuations.
Understanding futures trading
Futures trading is a crucial aspect of the financial market, enabling investors to buy or sell an asset at a pre-agreed price for future delivery.
Futures contracts can cover a wide range of assets, such as commodities, currencies, equities and indices.
One of the main advantages of futures contracts is that they offer greater flexibility than other forms of trading.
Here are some key points to understand futures trading:
Nature of forward contracts
Futures contracts are legally binding agreements between two parties to buy or sell an underlying asset at a specified future date. Contracts can relate to a variety of assets, such as commodities (gold, oil), stock market indices, interest rates or currencies.
Coverage target
Futures contracts are often used for hedging purposes by companies or investors to protect themselves against future price fluctuations. For example, a farmer might use futures contracts to guarantee a minimum price for his crops.
Speculation
Traders and investors can also trade futures for speculative purposes, seeking to profit from anticipated price movements. This involves a higher level of risk, as gains and losses are based on price fluctuations of the underlying asset.
Contract structure
Each futures contract has detailed specifications, including contract size, underlying asset, maturity date and contract price. Contracts are traded on regulated exchanges, ensuring transparency and security for the parties involved.
Leverage effects
Futures contracts use leverage, which means that the investor can control a much larger position with a relatively small amount of capital.
Margin calls
Due to leverage, investors are often required to deposit margin (collateral) to cover price variations. If the value of the position falls due to unfavorable market movements, the investor may be called upon to deposit additional funds.
Risks
Futures trading involves considerable risk, as price movements can be rapid and unpredictable. Losses can exceed initial investment, and a thorough understanding of the market and strategies is essential.
In short, futures trading is an advanced form of investment that can be used for hedging or speculative purposes.
It requires an in-depth understanding of the market, rigorous risk management and knowledge of the specific mechanisms of each contract.
Explore the different types of futures
There are different types of futures, each adapted to specific needs.
Here are some of the most common:
Commodity futures
- Gold and silver contracts: Speculate on future gold and silver prices.
- Oil contracts: Include crude oil and petroleum products, enabling investors to position themselves on oil prices.
Equity index futures
- Contracts on the S&P 500 Index: Based on the performance of this stock market index.
- Dow Jones Index Contracts: Track the performance of the Dow Jones Industrial Average.
- Example of a CAC 40 index contract
Let's assume that, at the start of the day, we carry out a transaction on a 10-unit futures contract (index point at 10 euros) on the CAC 40 (underlying index worth 4,000 points). At the end of the day, the CAC 40 stands at 4080 points, i.e. up 2%.
Our futures contract enabled us to make a profit of: (4080 – 4000) * 10 = 800 euros.
Interest rate futures
- T-Bond contracts: Based on U.S. Treasury bond interest rates.
- Eurodollar contracts: Linked to interest rates on US dollar deposits outside the United States.
Forward currency contracts
- Euro contracts: Speculate on the exchange rate between the euro and other currencies.
- Japanese yen contracts: Concerning the exchange rate with the Japanese yen.
Agricultural commodity futures
- Wheat, corn and soybean contracts: Enable you to position yourself on the future prices of these agricultural products.
- Coffee and cocoa contracts: Include contracts linked to agricultural commodities.
Bond futures
- Government bond contracts: Based on government bond interest rates.
Cryptocurrency futures
- Contracts on Bitcoin and altcoins: allow you to speculate on the future price of BTC and non-BTC cryptos.
- Although the nature of the contracts, the objective and the leverage are similar for BTC and Altcoins, there are differences between the futures contracts in the 2 categories in question. These include
a) Volatility and risk: Since Bitcoin is the leading cryptocurrency, it is justifiably less volatile and therefore less risky than many lesser-known Altcoins.
b) Liquidity: Given Bitcoin's position in the global financial ecosystem, futures contracts on this crypto generally enjoy greater liquidity and activity than those on Altcoins.
c) Popularity and adoption: Without question, Bitcoin remains the most widely accepted and adopted crypto.
d) Availability of options: Thanks to the popularity and adoption of Bitcoin, most trading platforms generally offer a greater number of futures options available on this crypto than on Altcoins.
Volatility futures
- Contracts on the Volatility Index (VIX): Track the implied volatility of the options market.
As mentioned in the introduction to this theme, it's important to note that each type of futures contract has its own characteristics, specifications and risks.
Investors need to understand these factors before engaging in futures trading.
The advantages of futures trading
Futures contracts offer a number of advantages, including the flexibility to trade on fluctuating asset prices without actually owning them. This flexibility is matched by leverage, which enables you to take large positions with relatively little capital. What's more, futures markets are open almost 24 hours a day, offering more trading opportunities.
Let's find out more about the benefits for investors and businesses.
Hedging against price risks
One of the main advantages of futures contracts is their use as a hedging tool. Companies can protect themselves against adverse price fluctuations by locking in a future price for an underlying asset, which is particularly useful for commodities.
Speculation
Investors can use futures contracts to speculate on future price movements. This can be a way of profiting from correct expectations of trends in financial markets, commodities or currencies.
Leverage effect
Futures contracts use leverage, which means that investors can control a larger position with a relatively small amount of capital, although this is a double-edged sword.
Fixed price for future purchases
Forward contracts enable companies to fix a price for future purchases, which can be advantageous for budget planning and cost management.
Liquidity
Futures contracts are often traded on organized markets and offer high liquidity. This means that investors can enter and exit positions more easily than with other, less liquid financial instruments.
Diversification
Futures contracts enable investors to diversify their portfolios by including assets that may not be directly accessible or practical for physical holding.
Price transparency
Futures markets are generally transparent, with real-time quotes for traded contracts. This gives investors clear visibility of prices and market conditions.
Ease of negotiation
Futures contracts can be traded on electronic platforms, facilitating market access and position management.
Lower transaction costs
By trading standardized contracts on organized markets, transaction costs can be reduced compared with other forms of investment.
However, it's important to note that futures contracts also entail risks, which we'll look at in more detail below.
Some disadvantages of futures trading
Although futures trading has many advantages, the risks are also considerable. Leverage can magnify losses as quickly as gains. What's more, the complexity of the contracts and the need for constant market monitoring can be daunting for novice traders. So it's crucial to learn how to trade and understand how futures work before committing yourself.
Key principles of futures trading
To trade futures successfully, it's essential to understand that futures trading is based on several key principles. Here are the main ones:
Standard contracts
Futures contracts are standardized contracts traded on organized markets. Contract terms, such as size, maturity date and other specifications, are uniform to facilitate trading.
Underlying asset
Each futures contract has a specified underlying asset, be it a commodity, stock index, currency, interest rate or other. Price fluctuations of the underlying asset determine gains or losses.
Contractual commitment
Parties entering into a futures contract undertake to buy (long position) or sell (short position) the underlying asset at a specified price on a future date.
Expiry date
Each futures contract has a maturity date on which the asset must be delivered (for physically settled contracts) or settled in cash. Open positions often have to be closed before this date, or extended by mutual agreement.
Forward prices
The futures price is the price agreed in the futures contract. The relationship between supply and demand on the futures market often determines this price.
Leverage effect
Investors use leverage to control a large position with a relatively small amount of capital.
Mark-to-market
Futures contracts are subject to a daily mark-to-market process, where potential gains or losses are adjusted according to daily variations in the contract price. In colloquial terms, this is known as the "market price". Investors must deposit margin to cover these adjustments.
Early liquidation
Investors can liquidate their positions at any time before the maturity date. The aim is often to realize gains or limit losses.
Hedging and speculation
As previously mentioned, futures contracts are used for both hedging (to protect against risk) and speculative purposes (to profit from price movements).
Risks
Forward contracts entail risks, including market, counterparty and operational risks.
Organized exchange
Futures contracts are often traded on organized exchanges, providing greater transparency and security than over-the-counter transactions. In this case, the clearing house plays the key role of sole counterparty.
Understanding these key principles is essential for investors considering forward transactions.
An in-depth assessment of the risks and opportunities specific to each contract is necessary for effective management of these financial instruments.
Strategies for successful futures trading
Successful futures trading requires a thorough understanding of the markets, trading strategies and prudent risk management.
Each strategy has its own advantages and disadvantages, and it's important to choose the one that best suits your financial goals and risk tolerance.
Diversification of strategies can also help reduce risk and improve the overall performance of the futures trading portfolio.
Here are a few of them.
- Hedging: Use futures contracts as a hedging tool to protect against unfavorable price fluctuations. Companies can thus reduce their exposure to market risks linked to raw materials or exchange rates.
- Arbitrage: Seek arbitrage opportunities by exploiting price differentials between the spot and futures markets. Arbitrage aims to profit from temporary price divergences.
- Spread strategy: Involves the simultaneous trading of futures contracts on different maturities. Spreads can be inter-market (different exchanges) or intra-market (different maturities on the same exchange).
- Directional strategy: Take long or short positions based on your expectations of future price movements. This can be based on fundamental analysis, technical analysis or a combination of both.
- Pairs strategy (Pairs trading): Identify closely related assets, and take opposite positions when you observe temporary price divergences between them.
- Carry strategy: Involves holding a forward position to take advantage of interest rate differentials between currencies. This is often used in currency futures contracts.
- Active margin management: Closely monitor margin requirements and manage your positions accordingly. Margin calls can be frequent when trading futures, so margin management is essential to avoid unwanted liquidations.
- Average reversion strategy: Based on the idea that prices tend to revert to their historical average. Traders can take positions based on significant deviations from this average.
- Fundamental analysis: Understand the fundamentals of the underlying market, whether for commodities, interest rates or other assets. Economic and political events can have a significant impact on prices.
- Prudent use of leverage: Leverage can amplify gains, but also losses. Use it wisely and understand the associated risks.
- Continuing education: Keep abreast of market developments, business news and general trends. Continuing education is crucial in a dynamic financial environment.
It's important to note that success in futures trading requires a combination of knowledge, analytical and technical skills, and discipline.
Prudent risk management is essential to protect invested capital.
Risk management for futures
Risk management is crucial in futures trading, due to the often volatile nature of these markets. Here are some key principles for managing risk in futures trading:
- Defining risk objectives: Before taking a position, clearly define your risk objectives. This includes the maximum amount you are prepared to lose on a transaction.
- Using stop-loss orders: Place stop-loss orders to automatically trigger the liquidation of a position if the price reaches a predetermined level. This helps limit losses.
- Diversification: Diversify your positions to reduce the impact of poor performance in a particular sector or asset.
- Managed position size: Limit the size of each position in relation to your total capital. Avoid overexposing your portfolio to a single transaction.
- Scenario analysis: Perform a scenario analysis to assess the potential impact of adverse events on your positions. Consider different market evolutions.
- Prudent use of leverage: If you use leverage, make sure you understand the associated risks. Excessive leverage can lead to significant losses.
- Regular monitoring: Regularly monitor your positions and adjust your strategy according to market developments. Stay informed about news and events that could influence prices.
- Margin management: Manage margin requirements wisely. Make sure you have sufficient funds to cover potential margin calls.
- Continuing education: Stay educated about the financial instruments you trade. A thorough understanding of the markets contributes to better decision-making.
- Trading plan: Draw up a detailed trading plan that incorporates your objectives, risk tolerance and exit criteria. Follow the plan in a disciplined manner.
- Emotional avoidance: Decisions based on fear or greed can be detrimental. Avoid making impulsive decisions by sticking to your strategy.
- Adapt to market conditions: Be prepared to adjust your approach as market conditions change. Markets evolve, and a strategy that once worked may need to be adjusted.
Risk management is an essential aspect of successful futures trading, and investors need to be cautious and disciplined to successfully navigate these often complex and dynamic markets.
Futures trading platforms: which broker to choose?
Choosing the right trading platform for futures trading is important for the success of your operations. Here are some factors to consider when choosing a futures trading platform:
- Fees and commissions: Compare the transaction fees and commissions offered by different platforms. Make sure you understand the pricing structure, including transaction costs and margins.
Degiro is one of the cheapest brokers on the market.
- Range of instruments : Check the range of financial instruments offered by the platform. Make sure it offers futures on the assets you're interested in, whether commodities, currencies, indices or others.
Saxo Banque and Interactive Brokers are certainly among the brokers offering the widest range of investment products.
- Ease of use: The platform must be user-friendly and offer intuitive navigation. A clear, well-designed user interface can facilitate rapid order execution.
- Real-time data: Access market data in real time. Real-time information is essential for making informed decisions in a dynamic market environment.
- Fast order execution: Speed of order execution is crucial. Choose a platform that offers fast execution to avoid slippage.
- Analysis tools: Look for advanced analysis tools such as charts, technical indicators, and other features that can help you make informed decisions.
Saxo Banque is a high-tech broker offering a top-notch trading interface.
- Mobile platform: If you need trading flexibility, select a platform with a functional, user-friendly mobile application.
Brokers with trading applications include Interactive Brokers and Degiro.
- Security: The security of personal and financial information is paramount. Make sure the platform uses robust security protocols to protect your data.
Degiro is a reliable, user-friendly and secure platform.
- Customer service: Good customer service is essential, especially in a financial environment. Choose a platform that offers responsive and competent customer support.
- Compatibility with your strategy: Some traders prefer specific features depending on their trading style. Make sure the platform is compatible with your trading strategy.
- Regulation: Check whether the platform is regulated by a recognized financial authority. Regulation offers an extra layer of protection for traders.
Like many others, Degiro is a regulated broker, operating legally in Europe.
- Tutorials and training: If you're just starting out, a platform that offers tutorials and training can be beneficial. Some brokers also offer demo accounts to enable traders to practice without risk.
As many brokers do, Saxo Banque publishes educational videos on understanding different financial instruments.
Do thorough research, read user reviews, and don't hesitate to test several platforms before making a decision. Choose the one that best meets your specific needs and offers the features essential to your style.
Step-by-step futures trading
Futures trading is a form of investment, involving the purchase or sale of contracts at a specified future date and at a pre-agreed price.
Here's a step-by-step guide to help you understand the futures trading process:
Understanding futures contracts
- Definition: Futures are agreements between two parties to buy or sell an asset at an agreed price on a future date.
- Underlying assets : Understand the contract's underlying assets (commodities, currencies, indices, etc.).
Financial education
- Learning the basics: Familiarize yourself with futures trading terms, such as "long" (buy) and "short" (sell), margins, basis points and more.
- Risks and rewards: Understand the risks associated with futures trading, including potential losses and margin requirements.
Choosing a trading platform
- Broker: Select a broker that offers futures contracts. Make sure it offers a user-friendly trading platform and search facilities.
Open a trading account
- Verification: Follow the account verification process with the broker, providing the necessary documents.
- Account funding: Deposit funds into your trading account.
Market analysis
- Technical analysis: Use technical analysis to examine price charts.
- Fundamental analysis: Use fundamental analysis to assess economic factors.
Choosing a futures contract
- Asset selection: Choose the underlying asset you wish to trade.
- Contract expiry: Select the contract expiry date.
Placing an order
- Order type: Choose between a market, limit or stop order, depending on your strategy.
Managing risks
- Stop-Loss and Take-Profit: Set stop-loss levels to limit losses and take-profit levels to secure gains.
Tracking positions
- Active management: Regularly monitor your positions and adjust your strategy if necessary.
- News: Keep abreast of news and events that could influence the markets.
Closing positions
- Profit or loss: Close your position when you reach your target or if market conditions justify closing.
Profit ou perte : Clôturez votre position lorsque vous avez atteint votre objectif ou si les conditions du marché le justifient.
- Training: Regularly educate yourself through training courses, reading market analyses and keeping abreast of economic developments.
Continuous assessment
- Performance analysis: Regularly assess your performance, identify errors and adjust your approach accordingly.
Since futures trading involves significant risks, it is advisable to trade with a thorough understanding of the market and rigorous risk management.
If you're new to trading, consider consulting professionals before you start trading futures.
The role of technology in futures trading
Investors must take advantage of technological advances to improve their performance and efficiency in futures trading.
Technology plays an essential role in futures trading, providing advanced tools that facilitate market access, order execution, data analysis and portfolio management. Here are just a few aspects of technology's role in futures trading:
- Electronic trading platforms: Enable traders to access futures markets via the Internet. These platforms offer advanced features such as real-time charts, data feeds and technical analysis tools.
- Trading algorithm: An automated trading algorithm, also known as algorithmic trading, uses complex algorithms to execute orders according to predefined criteria. This enables rapid order execution, effective risk management and the ability to seize market opportunities.
- Direct Market Access (DMA): Allows traders to send their orders directly to the markets without going through an intermediary. This reduces execution times and improves transparency.
- Real-time data and analysis: Traders depend on real-time data to make informed decisions. Real-time market data feeds provide information on prices, volumes and other relevant variables.
- Artificial Intelligence (AI) and Machine Learning (ML): Increasingly used to analyze large quantities of data, and identify patterns that can inform trading decisions. These technologies can be used to predict market movements and optimize strategies.
- High-frequency trading (HFT): Used to execute a large number of orders in fractions of a second. The aim is to profit from small price fluctuations.
- Blockchain and smart contracts: Some futures markets are exploring the use of blockchain technology to improve the security, transparency and efficiency of transactions. Smart contracts can automate the execution of contractual terms.
- Mobile applications: Enable traders to monitor markets, execute orders and manage their portfolios from their mobile devices, offering greater flexibility.
- Risk management systems: Help traders monitor and manage the risks associated with their positions. This includes margin monitoring, exposure management and alerts.
- Programming interfaces (APIs): enable traders to integrate third-party systems, develop customized strategies and automate processes.
Overall, technology has dramatically transformed the futures trading landscape, making markets more accessible.
We have also seen an improvement in operating efficiency, and new opportunities for innovation.
However, the use of technology also brings its own challenges, particularly in terms of security and system stability.
Key tips for newcomers to the futures market
For those new to futures trading, the first step is to learn the basics.
A good understanding of the nuances of associated trading is essential, in order to take steps to minimize risk. Here are some important tips:
- Educate yourself: Before you start trading futures, take the time to understand the basics. Familiarize yourself with concepts such as futures contracts, margins, margin calls, etc.
- Start small: Don't risk capital you can't afford to lose. Start with small amounts and gradually increase your exposure as you gain experience.
- Choose a market you understand: Focus on a market you understand well. Whether commodities, stock indices or currencies, a thorough understanding of the underlying market is essential.
- Develop a trading strategy: Draw up a clear trading strategy before entering the market. This should include entry and exit criteria, as well as risk management rules.
- Use a demo account: Many trading platforms offer demo accounts. Use them to test your strategy without risking real money.
- Manage risk: define acceptable loss limits and stick to them. Risk management is crucial to protecting your capital.
- Be prepared for margin calls: Understand how margin calls work. Futures can require large margins, so plan for sufficient funds to cover price variations.
- Stay informed: Financial markets are influenced by many factors. Stay informed about economic news, political events and anything else that could affect the markets.
- Avoid excessive leverage: Leverage can increase your gains, but it can also increase your losses. Use it wisely and understand the associated risks.
- Don't succumb to emotions: Trading can be emotionally intense. Avoid making impulsive decisions based on fear or greed. Stay disciplined.
- Diversify your investments: Don't put all your capital into one type of futures contract. Diversify to reduce risk.
- Be patient: Successful trading requires patience. Don't rush into decisions. Wait until market conditions are favorable to your strategy.
Conclusion
Ultimately, the key to success in futures trading lies in preparation, ongoing education, thorough research and discipline.
Futures trading can be lucrative, but it also involves risks.
By following the tips outlined above, you can better position yourself for success as a newcomer to the futures trading market.
However, due to its complexity, it is vital for investors to fully understand the contractual aspects and associated risks before participating in any type of trading.
FAQ
How do I start trading futures?
To start trading futures, it's essential to familiarize yourself with how futures markets work. This includes understanding the basics of trading and the different instruments such as CFDs and options. A solid education in trading strategies and the stock market environment is also crucial before launching into trading.
What trading strategies can be applied to futures?
Various trading strategies can be applied to futures contracts, such as day trading, swing trading, and the use of strategies based on technical or fundamental analysis. Each has its own advantages, and the choice depends on the trader's trading approach and risk tolerance.
Why trade futures rather than stocks or CFDs?
Trading futures can offer distinct advantages over equities or CFDs, thanks to their high liquidity, transparency and adaptability to a variety of trading strategies. What's more, futures allow direct exposure to the underlying markets with significant leverage, which can be attractive to traders seeking higher potential returns.
What is day trading and how can it be applied to futures contracts?
Day trading involves buying and selling financial contracts on the same trading day, exploiting short-term price movements. Applied to futures contracts, this means opening and closing positions on futures indices, commodities or any other asset class available on the futures markets, all in the same day, to capture quick gains.
What resources are recommended for learning to trade futures?
To learn to trade futures, it's advisable to start with basic educational resources such as books, webinars and courses dedicated to futures trading. Joining trading communities and practicing on demo accounts are also crucial steps in gaining the necessary hands-on experience without risking real capital.
What are the most popular futures markets?
The most popular futures markets include futures on indices such as the S&P 500 and Dow Jones, futures on commodities such as gold and oil, and currency futures. Each market has its own characteristics and offers different opportunities and challenges to traders.