Now that we’ve introduce you to some of mechanics of trading futures, including the roles of commoditized contracts, let’s turn your attention to the use of margin.
Most futures contracts require investors to post margin with their broker. While this is a good-faith deposit required of investors to help ensure they abide by the rules set by the exchange, brokerage companies can ask their clients to set aside more than this minimum amount.
The exchange monitors the price variation of its contracts over time, and will set the margin according to the volatility of each underlying.
Investors should be aware that margin requirements can and will change from time-to-time, especially in the event of market volatility.
The exchange is typically ambivalent to long or short positions, and charges the same margin requirement either way. Again, brokerage firms can augment the rules on this front should they choose.
To establish the margin requirement, exchanges typically calculate and post product price thresholds, that is the maximum permitted daily price move for a product, and use the value of that price change as the required margin.
In other words, should the price of a contract fall by its maximum permitted value, causing the exchange to suspend trading, investors holding long positions would face losses exactly equal to their margin requirement.
You may also want to keep in mind that futures:
- provide extremely efficient and relatively low-cost investment opportunities,
- providing tools for hedging and speculation without ever owning the underlying,
- And as the futures markets continue to undergo an ongoing transformation to electronic trading, trading costs have been trending lower.
Overall, you should now be more familiar with futures market trading, including some of its products, risks and safeguards, as well as the difference between spot and forward prices, contango and backwardation, and other insights into market mechanics, including the roles of commoditized contracts and margin.
Disclosure: Interactive Brokers
The analysis in this material is provided for information only and is not and should not be construed as an offer to sell or the solicitation of an offer to buy any security. To the extent that this material discusses general market activity, industry or sector trends or other broad-based economic or political conditions, it should not be construed as research or investment advice. To the extent that it includes references to specific securities, commodities, currencies, or other instruments, those references do not constitute a recommendation by IBKR to buy, sell or hold such investments. This material does not and is not intended to take into account the particular financial conditions, investment objectives or requirements of individual customers. Before acting on this material, you should consider whether it is suitable for your particular circumstances and, as necessary, seek professional advice.
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Disclosure: Futures Trading
Futures are not suitable for all investors. The amount you may lose may be greater than your initial investment. Before trading futures, please read the CFTC Risk Disclosure. A copy and additional information are available at ibkr.com.