Why Is Futures Trading The Best Option For A Day Trader?

By Galen Woods ‐ 6 min read

Futures trading is a day trader's dream. The traits of futures trading are desirable to day traders who want to capture profits quickly and reliably.

Every day trader must decide which financial instrument to trade. There are many choices including futures, forex, stocks, and options. There are also many considerations of your own, and conflicting advice from your friends. Indeed, it is a difficult choice to make.

Let’s cut the chase and tell you why futures trading is the best option for a day trader.

Futures Trading on Chicago Mercantile Exchange

Profit from your analysis with futures trading

Futures move in tandem with its underlying asset.

Futures and options are two derivatives used by active traders.

For options, we analyze the underlying asset but trade the option. This discrepancy is a problem because while we analyze the underlying asset, our profit and loss are not directly linked to its movements.

Instead, our profit and loss depend on how option prices move. However, due to factors like time value and volatility that affect options pricing, it is possible that the option prices do not move in tandem with its underlying at times.

Very often, the underlying asset might move as you anticipated, but the price of the option does not budge.

At times, it might even move a little in the opposite direction. This phenomenon is especially common in short trading time-frames. Your analysis is right, but you are not rewarded. This problem affects day traders who want to extract quick profits from the market.

On the other hand, futures move in tandem with its underlying asset. Traders apply technical analysis tools on the futures market directly. This allows us to profit from our anticipation of price movements without the complications of derivative pricing.

Futures has no restrictions on short-selling.

There are no restrictions on shorting in the futures market.

A day trader’s job is to take only the best trades, regardless of whether it is a long or short trade. With the unfettered ability to take on long and short positions, a day trader can stay neutral and act according to his or her current market analysis.

The stock market is different.

Although day traders can short-sell stocks, they are still limited by the shortable shares offered by their brokers. (You need to borrow a stock through your broker before you can sell them to profit from a bearish move.)

Moreover, financial regulators all over the world frown upon short-selling. Although short-selling bans do not solve fundamental problems of the stock market, regulators have used short-selling bans on many occasions as a short-term solution to prevent stock market collapses or perceived manipulation.

Free your trading capital

FINRA’s Pattern Day Trading Rule does not apply.

According to FINRA, you are a Pattern Day Trader if:

  • You use a margin account; and
  • Day trade the same security for more than four times within five business days; and
  • The day trades form more than 6% of your total trading activity for the same five-day period.

And if you are a Pattern Day Trader, you must keep up at least $25,000 in your trading account to day trade.

It is challenging for a day trader to avoid the label of Pattern Day Trader. Of course, you can trade very infrequently, or use a cash account. Both are not ideal solutions and impede the goal of a day trader.

Day traders want to take the best trades, even if the best trades occur more than four times within five business days.

Day traders want to make the most out of small intraday swings and using a margin account for leverage is essential.

Those are the bad news, at least for stock and options traders. The good news is that the Pattern Day Trading Rule does not apply to futures traders.

Futures traders can have less than $25,000 in your account and still day trade to your heart’s content. (Subject to your rigorous market analysis, of course.)

Day traders can make use of lower initial margins for futures trading.

To enter a futures position is to open a contract to buy or sell. You are not buying or selling anything, yet. So you do not have to pay.

However, you need to post an initial margin (also known as the performance bond) as a guarantee of your ability to fulfill the contract. The amount of initial margin depends on the product and market volatility.

While the futures exchange set the initial margin for overnight trading, futures brokers are free to decide on the initial margin for intraday trading. The difference is significant.

For instance, the initial margin for the E-mini S&P futures (ES) traded on the Chicago Mercantile Exchange is $6,930 per contract (as at 13 May 2019), while many futures brokers offer day trading margins as low as $500.

For day traders, this means that you can trade one ES contract for every $500 in your futures trading account. Given the size of one ES contract is $50 x S&P 500 Index (now at around 2881.4), you are controlling a value of about $144,000 using only $500.

A note of caution: Low day trading margins is not a reason to take on excessive day trading risk. Your position size should still be determined by a sound model based on the expectancy of your day trading strategy and your risk capital.

However, you can make use of the lower margins to manage your trading capital more efficiently.

Feel safe trading futures

There is central clearing for futures.

As futures are contracts, they are technically exposed to the risk of contracting parties failing to act according to the contract terms. This risk is known as counterparty risk.

However, futures are traded on the exchanges, and the exchange clearinghouse is the counterparty to both sides of the contract. With daily marking-to-market and performance bonds pledged to the clearing members, the counterparty risk of futures contracts is almost zero.

On the other hand, many retail spot forex brokers are market makers.

When you buy or sell forex, your broker sells or buys it from you. If your broker is unable to fulfill the deal, which is possible, especially for small forex brokerages that are not well-regulated, your paper profit is worth less than the paper it is written on.

Volume data for futures contract is reliable.

An advantage of having central clearing is that you can get reliable trading volume data.

The volume reflects the interest of market players and is useful for technical analysis, especially volume spread analysis. You can trust that your volume analysis is meaningful.

Getting reliable volume data from your forex dealer is impossible. This is because spot forex trading is decentralized and no one dealer has all the information.

Futures Trading is the Best Option For Day Trading

To summarize, this is why futures trading is a day trader’s dream.

FuturesSpot ForexEquitiesOptions
Move in tandem with the underlying assetYesNot applicableNot applicableNot always
Can take on a short position easilyYesYesNoYes (using puts)
Can day trade without restrictionsYesYesNoNo
Greater leverage for day tradersYesNoNoNo
Central clearingYesNoYesYes
Reliable volume dataYesNoYesYes (but not useful for analysis)

If you are a day trader and had chosen not to trade futures for some reason, we would like to hear from you!

Share your views with us by commenting below.

Image credit: liz_noise [CC-BY-2.0], via Wikimedia Commons