Perhaps you’ve traded stocks in the past and are interested in trying your hand at an investment opportunity that will get you greater leverage for your investment. Futures tend to be the item that most people turn to next.
It’s a high-risk, high-reward activity that demands strategic execution, mental fortitude, and a willingness to take chances.
Here’s What You Need to Know
Before you embark on a new investment or trading strategy, it’s critical that you perform the due diligence and be aware of what you’re getting into. Just because you grasp the gist of how it works, that doesn’t mean you’ll automatically be profitable.
If you’re going to trade futures, you need to be aware of the following:
- High Risk, High Reward
If you aren’t careful, you can lose a lot of money in this pursuit. This can happen especially when you’re starting out and just getting a feel for the way things work. That’s the time when you should only use risk capital.
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“Risk capital can be defined as money used for trading that won’t change your lifestyle if lost,” senior market strategist Jeff Ratajczak explains. “Trading is risky by its nature and should be taken as such. You can make a great deal of money due to the leverage in futures contracts, but you must be aware that you can actually lose more than your original investment.”
When you’re trading futures, you don’t have to pay for the trade in full (the way you must in the stock market). Futures can be purchased on margin, which means you only have to put down a deposit in order to control an amount of that commodity which is of much greater value.
Leverage can be your friend or foe, but things will likely go better if you have a firm grasp on what’s happening.
- Futures Never Go Bust
It may be that you’ve been burned by the stock market a few times. Enron is a searing example that comes to mind.
The good news is that futures are tied to physical goods — such as gold, coffee, or wheat — and will never trade at zero. Prices can certainly fall, but a futures contract will never become worthless to you.
- Commissions are Relatively Cheap
Unlike other investments, the commission charge on a futures contract is comparatively small. It’s also paid after the position has ended, which will enable you to maximize your earnings.
As one investor explains, “Commissions vary widely depending on the level of service given by the broker. Online trading commissions can be as low as $5 per side. Full service brokers who can advise on positions can be around $40-$50 per trade.”
- Futures are Super Liquid
Although it may take a few days to unload an individual stock, futures are incredibly liquid and can generally be purchased, sold, or traded in a matter of minutes. The largest stocks in the world may post a trade volume of 100K shares on the most active days of the year, but a bad day for crude oil is somewhere around 300K trades a day.
That should give you some perspective on how easy it is to enter or exit, regardless of how big your position is.
Give Futures Some Consideration
Trading futures can be a great way to increase your portfolio with minimal leverage. It can also be fairly risky if you don’t know what you’re doing.
If you’d like to know more about futures, then continue to research the topic. Invest in resources and mentors who can guide you through the learning process. It may take some time to learn the ropes, but a solid foundation of knowledge will serve you well in the long run.