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Beginner's Guide To Trading Futures

Learn the basics of futures trading 101, how to get started with a futures broker, different trading strategies as well as the history of the futures and commodities markets.

Beginner's Guide To Trading Futures

  1. What is Futures Trading?
  2. Trading Futures Basics
  3. Beginner's Guide to Trading Futures
  4. How do I get started with Futures Trading?
  5. Futures Trading Strategies
  6. Trading Futures Spreads
  7. Futures Trading 101
  8. History of Futures Trading


What is Futures Trading?

A futures contract, quite simply, is an agreement to buy or sell an asset or underlying commodity at a future date at an agreed-upon price determined in the open market on futures trading exchanges.

It's important to understand that futures contracts are standardized agreements that typically trade on an established exchange. One party to the standardized contract agrees to buy a given quantity of an underlying commodity or an equity index for example, and take delivery on a certain date. The other party agrees to provide it or make delivery of the underlying asset.

This standardized contract agreement in futures trading may be clear, but how does one invest in futures trading?

A futures trader can initiate a long or short futures position depending on the anticipated move by the speculator on the price of the trading futures contract. This is accomplished by simply buying, "going long" or selling, "going short" a single or several futures contracts. When initiating a long position, the trader is anticipating an upward move in the price of the futures contract. The opposite is the case with a short futures position. The trader or speculator is hoping for downward price action in the chosen futures contract.

It's important to keep in mind that trading futures is very risky; a full risk disclosure can be found at the end of this article.

In addition to commercial hedgers, (which will not be covered in this particular article) there are also people/parties who act as speculators and who seek to make money off of changes in the price of the contract itself, when bought or sold to other investors. Naturally, if the price of a given futures contract rises, the contract itself becomes more valuable, and the owner of that contract could, if he/she chose, to sell that contract to someone else who is willing to pay more for it. This would be known as a long position in a particular futures contract. It is also possible to take on a short position and speculate on the price of the underlying futures contract going down and offsetting the position by buying back the exact same contract on the same exchange with the hope of making a profit on the change in price. These futures contracts aren't just bought and sold over a single market segment, but over almost any asset that's commonly traded. Commodities themselves do indeed represent a large percentage of the futures trading world: Futures contracts are issued on many underlying assets: eggs, gasoline, ethanol, lumber, equity indices, financial contracts and precious metals. The list goes on and on. All of these commodities have standardized futures contracts and speculators and traders are constantly seeking profit making opportunities, while hedgers attempt to lock in favourable future trading price levels in the present trying to avoid risk.


Trading Futures Basics

As implied above, the commodity futures trading markets are not simply all about hogs, corn and soybeans. One can trade equity indices and futures contracts on financial instruments. Some traders trade these vehicles extensively because of the greater potential for leverage than could be garnered by trading these instruments outright on the world's equity markets. Leverage in the futures trading markets is denoted by the substantial position that can be initiated in an underlying commodity while putting up a relatively small amount of cash margin. A trader or speculator needs to be aware of the double-edged sword this implies: while the potential for greater profits exists, so does the increased risk of very large losses in the commodity futures markets. The understanding of leverage and the risks that inherently come with it, is paramount before initiating any positions in the commodity futures markets. No one can claim to know how futures trading works without a firm mental grip on these important futures trading basic mechanics.


Delving Deeper into the Beginner's Guide to Trading Futures

For beginners, the term contract can, at first glance, seem cold and uninviting, but it is consciously used because, like any other legal binding contract, a futures investment has an expiration date and standardized features. You don't have to hold the contract until it expires. You can cancel it or offset your position any time you would like before expiration of the contract. In fact, many short-term traders, known as day traders, only hold their contracts for a few hours - or even just for minutes!


As a general commodities futures trading rule, the nearer (to expiration) contracts are usually more liquid, i.e. there are more traders trading them and there is inherently more trading volume therein, which is referred to as liquidity. The limitation on the number of contracts you can trade (within reason - there must be enough buyers or sellers to trade with you) is governed mainly by your account balance and the amount of futures trading margin you can bring to the markets. It just so happens that larger traders/investment companies/banks, etc. may trade thousands of contracts at a time in different futures trading markets. These larger positions must adhere to CFTC position limits and reportable position rules.

As outlined above, all futures contracts are standardized, in that they all hold a specified amount and quality of a commodity. For example, a Silver (SI) futures contract holds 5,000 troy ounces of silver, a Gold futures contract (GC) holds 100 troy ounces of 24 carat gold; and a Crude Oil (CL) futures contract holds 1000 barrels of crude oil of a certain quality that is standardized and specified in the futures contract itself.

Futures Trading Infographics


Getting Started with Commodity Futures Trading

Before you get started Futures Trading or Commodities Trading, make sure you educate yourself with trading futures beginners guide, learn an online commodity futures trading platform, and get to a known commodities broker. Download a free futures trading software from Cannon Trading.

How do I get started with Futures Trading?

So you've come this far. You've evaluated different vehicles of investment, and you have decided to expand your portfolio to include commodity futures trading, Now what? You are going to need a few tools at your disposal: a knowledgeable commodity broker that is quick on their feet, a reliable, efficient platform that will get you the information you require and executes your trades on a timely basis, and perhaps most importantly a commodity futures trading plan.

Let's begin with the most important requirement: because futures are so highly leveraged (if you are holding one contract of the E-mini S&P 500, the notional value of the futures contract is 50x the current index price), there's no doubt it can be a very risky asset class and you should only be trading with "risk capital", or money that you can stand to lose and won't affect your lifestyle if you do. Once you've accumulated your risk capital and you've come to terms with the nature of trading futures & commodity, you can take matters a step further by doing research on what kind of trader you want to be.

Self-directed, Broker-assist, or Managed?

One of the most difficult aspects of futures trading is coming to terms with one's own skill set; what are the characteristics of my trading? What are the flaws and finer points of my trading? Is day-trading the E-mini S&P 500 something I was cut out for, or does my personality gear me more towards swing-trading the grains?

Execution of Trading Futures

Our future brokerage firm has been in the same location in Beverly Hills, California since 1988 and has the experience and tools to help you achieve your trading futures goals. We offer most of the platforms available in the industry today and it affords us the opportunity to provide an objective, comprehensive point-of-view when helping you choose your execution platform. Whether it is the user-friendly nature and execution of the Firetip platform, the indicator-specific trading of the NinjaTrader platform, or the automated risk management feature of TransAct AT, we can assist you figure out what it is that you need to help you increase your chance of success.

Every platform is different, even if they look similar. Depth of Market (DoM) trading has many subtle differences between platforms, and we're more than happy to share which ones we think are best. Also, the markets you're trading are very important to the platform you are going to be executing on; for example, some platforms we offer are not capable of trading Options on Futures or Forex, while some platforms we carry can handle it all. Some platforms are capable of trading Asian markets, while some platforms deal only with a handful of markets. Again, this is where talking to one of our brokers comes in handy.

Patience, Tolerance, and Trading Psychology

Navigating the futures trading markets is not understood overnight. It can often take years of preparation and research, and you can never learn enough patience when you're trading live. Just as paramount as any other prerequisite for trading futures is a proper commodities futures trading psychology: one that will allow you to determine the difference between pain tolerance and denial, between responsible targets and greed, and a mindset that won't force you to keep trading when it's time to step away from the computer.


Futures Trading Strategies / Techniques

There are many commodity futures trading strategies that can be employed; several of these methods and brief descriptions can be found below:

Spread Trading - A type of trade where a single position in the market consists of the simultaneous purchase of one futures contract and sale of a related futures contract as a unit.

Options on Futures - The purchase or sale of derivative instruments that grant the trader the right, but not the obligation to execute a trade on underlying futures contracts.

Day Trading - Day trading consists of entering futures positions and exiting those same positions within the course of one day's session.

Position Trading - Denotes holding a position for a longer period of time that may involve hours, or even a few days or longer.

Scalping - Scalping involves the very fast execution of trades in hopes of taking advantage of small and frequent price changes.

Swing Trading - Swing trading is a type of position trading that attempts to capture potentially larger price movements than those involved in quick scalping futures trading strategies.

Momentum/Breakout Trading - Here a trader looks for a narrow trading channel or trading range where volatility has diminished. The goal is to establish a position as price breaks out of this trading channel concurrent with a spike in open interest, thereby taking advantage of the increase in volatility and catching a strong trend move.


Trading Futures Spreads

Trading futures spreads, there are important reasons why spread trading should be considered if you're looking for an approach / guide to trading futures.


Over my 20+ year career as a commodities broker, I have studied and traded a wide range of approaches to trading the futures markets. From candlestick formations to the commodity channel index, from condors to turtle trading, there's an enormous catalog of tools and methods available for traders to consider.

One method I have noticed is surprisingly under represented among retail traders is futures spread trading, where a single position in the market consists of the simultaneous purchase of one futures contract and sale of a related futures contract as a unit. I call it surprising because some of the most invested players in futures trading - and arguably the most sophisticated - include large speculators and commercial firms who regularly employ spreads. This includes traders in the markets who often actually buy and sell the physical commodities we trade. Farmers, ranchers and other food growers along with food producers, petroleum companies who either drill for oil or natural gas or refine these products - or both, financial institutions with enormous holdings in treasuries, equities or currencies, mining interests and their buyers - all these areas of production and distribution employ futures trading spreads from time to time as an important aspect of their businesses. Indeed, spread trading futures is a fundamental and essential part of the commodities futures markets.

At the same time, despite the remarkable increase in interest and in the growth in the volume of the futures markets over the years, spread trading is typically dismissed by most other traders in search of a futures trading strategy. With so much attention focused on other approaches related to straightforward directional trading (and within that category, day-trading) it's not difficult to see how spread trading futures can be overlooked.

Spread trading futures can also be challenging to figure out anyway. On the surface, buying July soybeans and selling November soybeans, for example, might look like a downright futile endeavor.

But there are some important reasons why spread trading should be considered if you're looking for an approach / guide to trading futures.

Lower Volatility: many futures contracts can be extremely volatile, not just during their U.S. daytime trading hours, but during those night time hours when the preferred activity for many traders is sleep - and futures trading volume can be greatly reduced. Certain types of spreads can greatly reduce volatility risk for futures positions and be a viable substitute for placing stop orders. In this case, a spread might enable you to withstand the "surprises" that often appear when you rise to a new day.

Less margin: because of the lower volatility, the exchanges set margin requirements for many futures trading spreads that can be much less than an outright futures position. For example, the current initial margin requirement for July soybeans is $4,590. The current total initial margin requirement for the July soybean / November soybean spread mentioned above is $2,700.

But, why bother educating one's self on the inner workings of futures trading spreads? What advantages come with lower volatility and lower margins? Those qualities by themselves don't very strongly suggest futures spread trading is worth pursuing. Buying an out-of-the-money futures option for $200, after all, is also low in volatility and risk.

Well, consider this: those same large speculators and commercial firms who regularly employ spreads - again, some of the most invested and arguably the most sophisticated players in futures trading - are often employing spreads based on market conditions and events that recur at periodic intervals.

Maybe the most obvious of these intervals is the cycle of weather from warm to cold and back to warm. For agricultural and energy futures markets, weather - more accurately the seasons - can have an important effect on price movement. For example, enormous supplies of soybeans, once harvested, dwindle throughout the year. The same goes for other agricultural commodities such as wheat, corn, sugar, and cotton.

Seasons and weather changes affect energy prices as well. Demand for heating oil typically rises as cold weather approaches but subsides as refiners meet the anticipated demand. Memorial Day typically marks the beginning of the "driving season" in the United States and similarly, a vast number of the rest of the world's population prepares to "go on holiday." As a result, gas consumption rises.

Seasons and weather changes aren't the only cycles affecting the markets. Cycles in the financial arena can affect related futures trading markets. Consider how a nation's fiscal year and tax due date is often at variance with others who are important trading partners. That can influence currency flows and the forces on interest rate-sensitive instruments.

All these forces, though certainly not 100% predictable, give rise to recurring price phenomena - to greater or lesser degree and in a more or less timely manner - and reveal a tendency for prices to move in the same direction at a similar time every year.

Spread trades can take advantage of these types of cycles. Consider this: Market-driven U.S. interest rates historically exhibit a strong tendency to reach a seasonal high around April/May - presumably when monetary liquidity is tightest after the massive transfer of financial assets from out of the private sector and into the public sector - in the form of income tax payments due April 15. At the same time, the long June 10-year Treasury note / Short June 30-year Treasury Bond spread has closed in favour of the 10-year note between February 8 and April 17 in 17 of the last 19 years!

And how that spread found itself into this article leads me to the heart of the article: where can you find out more information about futures spread trading?

They may be harder to find, but there are some very good sources of research on futures spreads available for your investigation. My personal favourite is Moore Research Center, Inc. (www.mrci.com). They're responsible for the description and record keeping of the interest rate spread I just cited.

Although spread futures trading represents an important slice of the overall trading volume in the futures markets - and is used as a futures trading strategy by some very sophisticated participants, I see it as an approach worthy of investigation by futures traders more broadly, including most of our readers. Even if spread trading futures can take on the directional characteristic of straight futures trading, it is certainly an overall different approach and that can be the trading futures strategy diversification you're looking for.

As is always the case when we share trade proposals of this sort, we want to make sure we square up our discussion with the always-important information. Spread trading like all futures trading, isn't without its risks. Even with regard to the annual cycles referenced above, which will inevitably ebb and flow both daily and longer term - no spread works every time. Just look at how some summers are hotter and dryer - and at more critical times - than others for an example of what can affect a grain, livestock, energy, possibly even another type of futures trading spread. Make sure you're aware of the risks to trading futures spreads as you should with any futures trade.

Gold & Silver Spread

A spread usually comprises of multiple futures related positions. If we have to recognize the spread for margin purpose, there needs to be an economic connection between its constituents. Gold and silver are fellow travelling precious metals; however, formally recognizing the spread by exchanging clearing house is needed if we have to derive the spreads benefits. In most of the cases, the benefit is reduced margin requirements.

Selling Gold against Silver purchase wagers on an improvement in silver's buying power, whether it derives from a rise in silver's price or a decline iThere is a variety of "Spread Trading Software" that can help you analyze your trading needs gold's. A spread, therefore, gives you an opportunity to profit regardless of overall market direction.

Day Trading Crude Oil Spreads

The price of crude oil is a vital global economic factor. This means that day trading is often influenced by political and commercial concerns. If the price of oil remains high over a period of time, cost of products like fertilizers and plastics are also inadvertently affected.

Crude oil futures are standardized, exchange-traded contracts in which the contract buyer agrees to take delivery, from the seller, a specific quantity of crude oil (e.g. 1000 barrels) at a predetermined price on a future delivery date.

Wheat futures are standardized, exchange-traded contracts in which the contract buyer agrees to take delivery, from the seller, a specific quantity of wheat (e.g. 5000 bushels) at a predetermined price on a future delivery date.

Producers and consumers of wheat can manage wheat's price risk by buying or selling wheat futures. Producers can deploy a short hedge to lock in selling price for the wheat they produce while the businesses that require the wheat can make use of long hedge to secure a purchase price for the commodity needed.

There is a variety of "Spread Trading Software" that can help you analyze your trading needs.





Futures Trading 101: Trading Around Economic Reports

Trading is truly a fascinating pursuit. The markets can in still excitement, frustration, irritation, exhilaration - really a wide range of emotions - conceivably, even within a single trade. Trading is definitely one of those undertakings where one has to constantly study, evolve and grow.

There are also a number of different approaches to trading, including day trading, swing trading and position trading. There are strategies that focus on just trading straight futures contracts, others solely trade options, including selling/writing options, still others incorporate long and short positions simultaneously - spread trading - utilizing futures and/or options.

One narrowly defined approach to trading - probably most relevant for day traders - is trading around economic reports.

The release of economic reports occurs almost daily. Most come from the U.S. federal government and look at national or large regional data; some come from other private surveys. Some garner considerable attention by traders; others draw barely a thought, much less a glance at their impact on the markets. This article doesn't attempt to detail any particular number of them and their significance. Rather, it lists some pointers that can help traders prepare for reports releases.

  1. Know the times reports are set for release
  2. Know which markets reports may impact
  3. Know what the markets are expecting and how different outcomes will affect market movement
  4. Do your homework, i.e., go over charts from earlier dates when similar reports were released.
  5. Keep a journal. Focus on the reports that affect the markets you trade. In general, I like to know what the market expects, observe the market's reaction to the actual data, let the initial strong move occur and then if there is a clear direction, I like to try trading the second wave. That means if I am looking to go short, I would give the market time, take a look at price action and wait for higher prices to go short. It's possible I may miss the trade but I prefer to be rather conservative and follow the thinking that "no trade is better than a bad trade." Another way more experienced traders can play major reports is by placing limits to both buy and sell at points they consider are the outer ranges for the short time frame. One must be experienced enough and understand the many factors and risks in trading during major numbers and know how to send attached orders.
  6. If you trade energies, you should know that Wednesday morning at 9:30 A.M., Central Time a key weekly report is released. If you trade natural gas, Thursday morning at 9:30 A.M., Central Time is similarly worth keeping an eye on.
  7. The financial markets (Treasury Bonds & Notes) are probably the markets most influenced by economic reports, such as Non-farm Payrolls/unemployment, housing starts, permits and home sales, Producer & Consumer Price Indexes, Consumer Confidence and others.
  8. There are a few great sources on the web that will list these reports and their meaning, including some free sources as well as paid services. The latter often provide real time updates and commentary.
  9. The vast majority of these reports are regularly scheduled weekly or monthly. Others, such as Federal Open Market Committee events occur every 6-8 weeks. Do your homework.
  10. Last but not least, do not enter a trade with the idea that you'll just get in and see how it goes. Risk levels, potential targets, in other words, a game plan should be considered BEFORE you enter the trade!
  11. I will expand on this topic in future articles and write specifically about certain reports, the markets they affect, and more. Until then, don't just jump in and start trading economic reports. Talk to a series 3 professionals at Cannon Trading Co, Inc. who can help you understand more, provide you with an honest outlook of both the risks and opportunities and who can help you devise a game plan!


A Short History of Futures Trading

Before the advent / history of futures trading, any producer of a given commodity (e.g. a farmer growing wheat, soy or corn) often would be at the mercy of a commodity dealer when it came to selling his product at his/her desired price level. It became of great advantage to a commodity producer when he/she could participate in a system of commodity futures trading exchanges that outlined a specified amount and quality of a commodity product that could be traded between producers and dealers at a specified date. This helps to eliminate some, but not all, of the prevailing price risk facing commodity producers. It also helped to build a more liquid market environment for the commodity producers themselves.

Again, before the creation of the commodity futures trading markets, contracts were drawn up between the two parties specifying a certain amount and quality of a commodity that would be delivered in a particular month...these were known as forward contracts and were not the standardized commodity futures trading contracts we know today.

Trading Commodity Futures has its birth

In 1878, a central dealing facility was opened in Chicago, USA where farmers and dealers could deal in 'spot' grain, i.e., immediately deliver their wheat crop for a cash settlement. Commodity Futures Trading evolved as farmers and dealers committed to buying and selling futures contracts of the underlying commodity.

Perhaps surprisingly, until only about forty years ago, trading futures markets consisted of only a few commodity farm products, however, now they have been joined by a huge number of tradable financial and other tradable products such as precious metals like gold, silver and platinum; livestock such as hogs and cattle; energy contracts such as crude oil and natural gas; foodstuffs like coffee and orange juice; and industrials like lumber and cotton.

And as stated previously above, modern commodity futures markets include a wide range of interest-rate instruments, currencies, stocks and other indices such as the Dow Jones, Nasdaq and S&P 500.

Trading commodity futures and options involves substantial risk of loss. The recommendations contained in this letter are of opinion only and do not guarantee any profits. These are risky markets and only risk capital should be used. Past performance is not necessarily indicative of future results.

For beginners, futures traders can also check detailed comprehensive trading futures market insights and strategies in commodity futures trading through our educational resources, articles, other Beginner's Guide To Trading Futures which are mentioned below:

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