What are Futures?
Futures are standardized financial contracts obligating the buyer to purchase, or the seller to sell, an asset at a predetermined future date and price. Futures are commonly used in trading for hedging or speculation. Unlike stocks, which represent ownership in a company, futures contracts are agreements to buy or sell an asset in the future at a price agreed upon today.
There are many future instruments and this article focuses on Nasdaq or NQ futures only.
NASDAQ-100 (NQ) Futures
The NASDAQ-100 (NQ) futures are a popular trading instrument representing the NASDAQ-100 Index, which includes 100 of the largest non-financial companies listed on the NASDAQ stock exchange. These futures contracts allow traders to speculate on the future value of the NASDAQ-100 index and are widely used due to their high liquidity and volatility.
There two type of futures that can be trade; Mini or Micro and each point has underlying dollar value
Mini Contracts : For NQ, ONE point moves up or down is $20
Micro Contracts: For NQ, ONE point moves up or down is $2
NQ Futures Contract Specifications
Contract Symbol: NQ
Contract Size: Each NASDAQ-100 futures contract represents $20 times the NASDAQ-100 Index.
For example, if the NASDAQ-100 Index is trading at 18,000, the notional value of one NQ futures contract would be 18,000 * $20 = $360,000(You don’t need to bring this much capital to trade NQ as brokers provide substantial margin on futures)
Trading Hours: NQ futures trade nearly 24 hours a day during the trading week:
Regular Trading Hours (RTH): 9:30 AM to 4:00 PM Eastern Time.
Extended Trading Hours: Trading starts at 6:00 PM the previous day and continues until 5:00 PM the next day, with a trading halt between 5:00 PM and 6:00 PM.
Expiration and Settlement:
Expiration: NQ futures contracts expire quarterly on the third Friday of March, June, September, and December.
Settlement: NQ futures settle to the NASDAQ-100 Index's closing value on the last trading day.
Margin Requirements:
Initial Margin: The amount required to open a position, subject to change based on market conditions and broker requirements.
Maintenance Margin: The amount required to maintain an open position, also subject to change.
Suppose you have a trading account with NinjaTrader and the following margin requirements for NQ futures:
Initial Margin: $16,000
Maintenance Margin: $14,000
Day Trading Margin: $1,000 per contract
Overnight Margin: $16,000
Day Trading Example:
You want to trade 1 NQ contracts during the day.
Required Margin: 1 contracts * $1,000 = $1,000(Compare this to not bringning in $360k, that is the power of leverage with Futures)
Ensure your account has at least $1,000 to trade 1 contracts during the day.
Overnight Holding Example:
If you decide to hold these 5 contracts overnight, the margin requirement increases.
Required Margin: 1 contracts * $16,000 = $16,000
You must have $16,000 in your account to hold 1 contracts overnight.
Benefits of Trading Futures
1. Leverage
High Leverage: Futures contracts allow traders to control large positions with relatively small amounts of capital, thanks to margin trading. This high leverage can amplify returns on investment.
2. Liquidity
High Liquidity: Futures markets, especially for popular contracts like NASDAQ-100 (NQ) futures, are highly liquid. This ensures that large orders can be executed quickly and with minimal slippage.
3. Diversification
Broad Exposure: Futures contracts are available for a wide range of assets, including commodities, indices, currencies, and interest rates. This variety allows traders to diversify their portfolios and reduce overall risk.
5. Cost Efficiency
Lower Costs: Compared to trading the underlying asset directly, futures trading can be more cost-effective due to lower margin requirements and reduced transaction costs.
6. Tax Advantages
Favorable Tax Treatment: Futures trading can offer tax advantages. For instance, in the United States, futures contracts are often subject to lower capital gains tax rates and may benefit from the 60/40 rule (60% long-term and 40% short-term capital gains).
7. 24-Hour Trading
Extended Trading Hours: Many futures markets operate nearly 24 hours a day, allowing traders to react to global events and news outside of regular market hours.
8. No Wash Sale Rule for Futures
Trading futures is that they are not subject to the "wash sale" rule that applies to stocks and options.
9. No Pattern Day Trading (PDT) Rule for Futures
Trading futures is that they are not subject to the Pattern Day Trading (PDT) rule that applies to stocks and options
10. Short Selling with Futures
Direct Selling: Unlike stocks, futures contracts do not require borrowing. Traders can sell (short) futures contracts directly without needing to locate and borrow the underlying asset.
Ease of Execution: This makes short selling futures straightforward, as traders can enter short positions as easily as long positions.
Risks Associated with Trading Futures
Trading futures offers substantial opportunities but also involves significant risks. Here are the key risks associated with futures trading:
1. Leverage Risk
High Leverage: Futures contracts are highly leveraged, meaning traders can control large positions with a relatively small amount of capital. While this can amplify profits, it also magnifies losses.
Example:
A trader controls a $10,000 futures position with a $5,000 capital. A 5% adverse move in the market would result in a $5,000 loss, wiping out the trader's initial margin.
2. Market Risk
Price Volatility: Futures markets can be highly volatile, with prices fluctuating rapidly due to economic data, geopolitical events, natural disasters, and other factors.
3. Operational Risk
System Failures: Technical issues, such as system outages, trading platform failures, or connectivity problems, can prevent traders from executing or managing positions.
Execution Errors: Human errors, such as entering incorrect order sizes or prices, can lead to unintended trades and potential losses.
4. Emotional Risk
Psychological Pressure: The high leverage and volatility in futures trading can lead to significant emotional stress, impacting decision-making and potentially leading to impulsive or irrational trades.