Why Trade Futures?

Why Trade Futures?

Futures offer a number of advantages over trading stocks or other financial instruments.

Diversification – Generally, when the stock market goes up or down, most stocks go up and down along with it. At times, traders can experience wide swings in your account value, especially if your stock portfolio is weighted heavily on one side of the market when the market is moving in the opposite direction. By trading futures uncorrelated to the stock market, you can help reduce your portfolio’s volatility and overall risk.

24-Hour Liquid Markets – How often have you seen a news event after market hours or over the weekend and wished you could trade that news before the stock market opens on Monday? Many futures markets trade 24 hours a day six days a week starting on Sunday night through to Friday’s close. Futures are also very actively traded, and the large number of traders generally ensures tight bid-ask spreads, fair transparent pricing, and large trades can be executed without wild price fluctuations.

Leverage – Futures are traded on margin which allows you to control a large dollar value of a commodity or stock index for a fraction of its value. This can result in much greater profits than could be gained without margin. With margin also brings potential for larger losses if the trade moves against you. Always have appropriate risk management in place to guard against a big move against your futures position. It is always possible to lose much more money than the initial margin required at the start if the market makes a big move against your position.

Tax Benefits – Futures traders benefit from a more favorable tax treatment than short-term stock traders; 60 percent of futures trading profits are taxed as long-term capital gains regardless of how long the trade was opened, and the remaining 40 percent of profits are taxed as short-term capital gains. Currently the maximum long-term capital gains rate is 15 or 20 percent, and the maximum short-term capital gains rate is 37 percent. Always check with your tax professional for the current tax rates and how any trading will affect your tax return filings.

Pure Market Exposure – A stocks or ETFs trader seeking exposure to crude oil would have a number of challenges. Oil refining stocks are highly diversified beyond crude oil, an Exchange Traded Fund (ETF) like USO uses futures and swaps to create a crude oil price proxy and often these instruments do not directly reflect the price action of the crude oil market. On the other hand, the crude oil futures trader receives pure exposure to the crude oil market. Each crude oil futures option controls one crude oil future made up of 1,000 barrels of West Texas Intermediate crude oil.

Reading next

Market Basics: What is a Future?
What You Need to Know About Trading Futures