Futures Trading Questions

Is there any truth to stories I have heard of some investors losing their entire futures investment?

Yes, it does happen; however, it is usually because the investor tries to make a killing, and exposes himself to considerable risk, more risk than the investor is in a position to handle. For example, speculating in a highly volatile commodity with little capital, and adding to the position when the market moves favorably (rather than liquidating some of the original contracts at a profit) could be an expensive mistake. Like any business transaction, the futures markets can be approached with reckless abandon, or with common sense and good business judgment.

Is there any truth to the stories I have heard about people becoming millionaires on small amounts of capital in futures?

Yes, absolutely, there have been such cases (although not as common as they might seem). Futures traders have turned $5,000 into $20,000, $100,000, or more. The potential for large profits is inherent in the futures markets; however, when there is an opportunity for large profits, there is also a corresponding risk of loss potential.

Is there any chance someone would try to deliver 5,000 bushels of soybeans to me if I don’t sell in time?

This is a standard joke in the industry. It is totally false. Accidental delivery to your front yard cannot happen. “Delivery” of grain (and many other commodities) takes place in the form of a warehouse receipt for the physical commodity. With precious metals, for example gold and silver, “delivery” occurs in the form of a bank document guaranteeing the quantity and quality of the metal in the bank’s vault. Whatever the commodity, the delivery process begins with a “notice of intention to deliver,” not with the physical commodity. Also, before delivery of any commodity can occur, payment or financing of the total contract value must be arranged. Then the brokerage firm must issue delivery instructions, including method of shipment, place of delivery, and delivery date.

How much time do I have to spend each day if I trade futures?

Trading futures can take from no time to several hours, depending on the depth of your involvement. We have some clients that trade the markets full time and other clients who only spend 10 to 20 minutes a day. Your full service broker will do much of the time consuming work for you. Professionally managed accounts basically require no time.

Are the futures markets financially sound?

Absolutely, unequivocally, yes! The Clearing Corporations of the various commodity exchanges guarantee every transaction on their exchanges. The Clearing Corporation is separate and independent from the exchange. No Clearing Corporation has ever defaulted on any contract. The Clearing Corporation interposes itself as a guarantor of every contract, acting as a buyer to every seller and seller to every buyer. This establishes the Clearing Corporation as the payment and collection agency for its members and, through them, their customers. Each clearing firm must pay the Clearing Corporation in full for each day’s market activity before the market opens for the next trading day. Based on the previous day’s settlement prices, payments are made by wire transfer. Each clearing firm begins each new day of operation without debt to the Clearing Corporation. In this way, debt exposure is limited. Clearing firms, in turn, collect and pay (credit) their customers daily. This is how the Clearing Corporation effectively guarantees performance of every cleared contract. Their obligations are backed by guaranteed funds deposited by the clearing firms, by the Clearing Corporation’s own capital, and by its power to make assessments on its clearing firms. In addition, Federal Regulations require customers’ margin funds to be segregated from the other assets of any firm licensed as a futures broker.

How safe is my money, and where is it kept?

This is a frequently asked question, as people need to feel confident and secure about the firm they are sending their money to. The short answer is that your funds are very safe. All checks are made out to our clearing firm, Vision Financial Markets, one of the world’s largest independent Futures Commission Merchants. Your funds are held in a customer-segregated account at Harris Trust and Savings Bank in Chicago.

What is your minimum account size and how much should I invest?

It depends on the type of account you plan on opening. However, you should be aware that there are significant disadvantages to starting with an amount that is too small. You just don't have enough to diversify and apply proper risk management principles. Studies have shown that the more money you have to trade, the better your chances of success. Let me make a football analogy: Starting with just $2,000 in an account may be likened to a football team trying to make forward progress starting from the two-yard line. The offense needs room for plays to develop, but has limited space. Thus, its options to make plays that will advance the team down the field are also limited, and the team stands a high risk of being driven back to its own end zone. Having a $50,000 account is like having the ball at the 50-yard line, your “team” can try a lot of different plays, knowing that a few losses won’t ruin the whole game plan. Remember, whatever amount you invest should be considered risk capital.

Also, a trader should always remember that emotions and psychology are the biggest factors in trading, and small accounts leave little room for error, thereby magnifying the emotional effects. For example, a small account with only one or two open positions (contracts) may encounter a margin call with just a small adverse price movement. Being in such a position often causes a trader to make moves that are not in accordance with the overall game plan, because of either an actual margin call or emotional factors. This may cause a trader to get out of a winning position too early or make irrational trades to make up for losses.

A firm that tries to get you to open an account with too little equity is not doing you any favors.  Many firms won’t mind seeing your small account “burn out” because they know that they can replace your account with other small accounts.  When a brokerage pressures you to open an account with a small initial amount, you should be aware that this firm might not have your best interests at heart. We believe that $5,000 should be the minimum you should consider to start trading with, and recommend starting with more if you can.

How can you sell (go short) what you don’t own in futures?

You don’t need to have the physical commodity or own a contract for the commodity to sell or “go short.” You are simply agreeing to sell the commodity at a later date. Let’s take a non-futures example. Say your friend mentions to you that he is going to buy a certain model bike next week for $299 at a particular bike shop. You think you can buy the bike for $50 less at $249, because you heard that another bike shop is having a sale. So you tell your friend that you will sell him the bike for $299 and will provide it to him next week. You make a contract and he pays you $299 now for delivery of the bike next week. You don’t own any bike, but are contractually obligated to make good on one for the agreed upon price. The following week the store has the bike on sale for $249; you buy it and fulfill your contract. You have made $50 for selling something you didn’t own when you entered into the agreement to sell or “short” it.

You also have the opportunity to repurchase the contract before delivery is required. Often, it is easier to make money on the “short” side because prices tend to move more quickly when declining than when rising. Also, unlike the stock market, you don’t have to wait for an up-tick before going short.

How accessible are my funds in my account?

A futures account offers a high degree of liquidity. Funds in excess of margin requirements usually can be wired or sent the day requested.

What about all the shouting and arm waving in the futures pits?

Although it doesn’t look very professional, a futures trade is a precise financial transaction. There is direct contact between the buyer and seller: Orders are confirmed visually, orally, and in writing. All orders and fills are “time-stamped.” At the end of each trading day, all completed trades must balance, every filled sell order must have a corresponding buy order, and vice versa, all with the proper number of contracts and at the agreed prices.

Isn’t futures trading just gambling?

No. The futures markets permit producers or owners of commodities (e.g., wheat, sugar, gold, stocks, bonds) to transfer the risk of growing or owning these commodities to futures speculators. Those who use the futures markets to transfer risk are called hedgers. Speculators assume the risk of price change that hedgers seek to avoid. Speculators seek the opportunity to profit. When a speculator assumes price risk, this allows the hedger to concentrate on the more controllable aspects of his business. Futures speculation is unlike most investments in that price movements are magnified by the leverage resulting from a deposit requirement of an average of 5% of contract value. The presence of speculators brings volume and liquidity to the markets.

Aren’t commodities volatile compared to stocks?

It is a myth that commodity prices are more volatile than stock prices. The truth is that the underlying commodity prices are no more volatile than stock prices. Take, for example, a move in soybean prices from $6.30 to $6.80 a bushel. This is equivalent to a move from $63.00 to $68.00 in the value of a stock. Most investors wouldn’t consider that to be a big move. It is important to understand that the leverage, not the underlying price movement, creates volatility in a commodity account’s balance. The use of leverage will create larger profits and losses than in non-leveraged investments and therefore more risk. The prudent use of leverage is one of the most important money management rules in futures trading.

What about paper trading?

The major distinction between paper trading and actual trading is that paper trading does not involve emotion. Emotion is one of the most important elements of trading. When real money is on the line, one’s decision-making process could be clouded by greed and fear, two of the worst enemies in trading. Paper trading also doesn’t take into account market conditions such as limit moves, “fast markets,” fill slippage, and unexecutable orders. Paper trading is great for gaining an understanding of the markets, learning terminology, and testing a specific trading methodology.

Should I trade futures or options as a beginning trader?

Whether you should trade futures or options contracts in the beginning could depend on your account size. A smaller account of $5,000 would be able to afford fewer losses before being drawn down to a point that would threaten the viability of the account. Also, there are only a handful of contracts that are in this small leverage range. Options, and the use of options combined with futures could give a smaller account the staying power available in a larger account. When trading in this fashion, more diversification is possible and therefore more opportunities to profit.

How can I track my positions and my account status?

Heritage West will provide the same timely reports you'd receive if you were directing your own account. These are available a few different ways. First, a complete listing of all the activity in your account, including your balance, can be viewed on our website 24 hours a day. Second, you may call us at 800-263-3004 to obtain an up-to-date status of your account. Finally, You are sent a P&S (purchase and sale) statement, which shows dates, prices, net profits or losses for all trade activity, as well as your account balance. In addition you will receive a monthly summary of all transactions showing their results.

Should I use technical or fundamental indicators?

The answer to this question changes from person to person. One person might say all that matters are the technical indicators; another person might say only fundamental news moves the markets with any force. As you may know, fundamental analysis is concerned with basic supply and demand information, such as GDP growth rate, disposable income, unemployment levels, weather patterns, carryover supplies, and agricultural reports. At different times, such information impacts on the markets differently. Technical analysis is concerned with price action such as trading volume, open interest, and price movement. Advocates of a strict technical approach argue that market price is the best indicator in any situation because it includes expectations and fundamentals. Many traders use fundamental analysis to determine the direction of the market, and technical research to time their entry and exit. Speculators will usually state that they are one or the other, but it is rare to find a true fundamentalist or a pure technical trader. More than likely you will be a combination of both and that combination will be determined by your personality and beliefs. Learn more about the two approaches before deciding what works best for you.

How should I get started?

First, don’t be in a hurry to trade - wait until you’re ready. If any broker pressures you to open an account immediately run the other way; the markets and the profit opportunities they present will always be there tomorrow. One of the best things to do is start "paper trading." Choose something that you are familiar with, or are interested in, and start following that market. It might be something from your business or home. Paper trading is great for gaining an understanding of the mechanics of the trading and the markets, learning terminology, and testing specific trading idea.

How long does it take to open a new account?

Once we've received and have approved your signed application, your account is typically approved and opened within 24 hours. Transfers from other futures brokerage firms typically take about 3-5 business days to complete.

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Past performance is not indicative of future results. 
Futures and options trading involves substantial risk of loss and is not suitable for all investors.
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