PART 3:

Fewer Decisions in Futures

Of course, successful trading means choosing profitable entry and exit points. Like with the SPYs or DIA, trading the electronic futures indexes requires one less dimension of decision-making. Instead of having to pick a stock - based on technicals or fundamentals - and then get whipped around in it because of the overall market, one only has to form an opinion on the direction of the market for the time frame of the trade. As Adele Newton, a Boston-based trader who switched from stocks to futures says, "You only have to figure out market direction. Whereas with a stock, the market could be doing one thing, and the stock has news or the sector isn't doing well."

Put another way, trading the indexes removes the stock-specific risks of unexpected earnings, patent, lawsuit or other news releases pertaining either to the company being traded or one of its competitors. Let’s say Micron (MU) looks bad when viewed through a 15-minute stochastic; the market overall seems a bit weak and, so, you short MU for the afternoon. What you didn’t know and had no reason to worry about was that Texas Instruments was speaking that afternoon to Morgan Stanley, and word gets out that they are indicating strong overall industry demand. In no time flat, you are stopped out – if you are disciplined. And if you are lucky, the stop is at least not much more of a loss than you allowed for. But it happened for reasons completely unrelated and totally unpredictable.

On the other hand, when trading an index that reflects the sum total of all the news, any one event gets factored in and only very rarely yanks the well-planned trade in a completely unexpected way. Another advantage to futures is that the all-electronic...

markets reveal what I consider “purer” price action. Without a specialist (NYSE) or a market maker (NASDAQ) influencing the bid and ask levels and size, a clearer picture of supply and demand can be seen. In other words, price movement itself can be more easily deciphered when trades occur due to electronic matching of orders, versus a person in the middle who possibly is attempting to create a particular impression. On the flip side for the trader switching markets, it can be an adjustment. I actually had some skill in being able to read the actions of certain NYSE specialists. For example, never trust a big bid and a little offer. It usually means the stock is going down although it appears as if demand way outstrips supply. In any event, as the pressures of electronic trading have invaded all the formerly floor-based markets, even this has gotten more difficult to do. Being able to eliminate the need to interpret “messages” and focus primarily on market direction just plain makes the job easier.

The Numbers

Two additional pro-futures factors also crossed my mind, but they didn’t dramatically sway my personal decision to make the switch to futures from stocks. These are leverage and taxes. Futures trading requires less capital. Overnight margin numbers change with the market but have been hovering around $4,000 to hold one E-mini S&P overnight or $500 to trade one contract intraday. One thousand SPYs use $120,000 or $30,000 in a leveraged retail day-trading account.

A good teacher, which I recommend finding, will tell you not to maximize leverage, but it does clearly allow a trader to learn futures with less overall capital at risk. This can be a challenge to a new trader who wants to trade as large a size as possible. Remember, however, that leverage is a double-edged sword. Likewise, taxes on futures work differently than with stocks. First of all, the broker sends a 1099 at the end of the year with one number – this as opposed to having to match hundreds, if not thousands, of trades on the stock side. Sara Petersen, a west coast trader, says taxes alone played the most significant role in her decision to switch from stocks to futures.

Robert Green, CPA and CEO of GreenTraderTax.com, confirms that taxes on futures (which are listed as commodities) are reported as capital gains and losses on Form 6781. This allows them to split the gains and losses 60/40 on Schedule D: 60-percent long-term, 40-percent short-term. So while my friends’ friends say “easier for you” and probably consider futures high risk, a strong case for just the opposite can be made for the active, educated intraday trader.

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