Trading in options and futures comparison
You may be wondering how they can be? Equity trading is much like the Farmers Market. Traders can buy just a single share or buy multiple shares if they wish. When a trader sees the last price on the screen they can buy or sell that stock for that exact price if they only want one share of the Stock. This allows traders with smaller accounts to have more opportunities in the Equity markets. The Futures markets are different however. Trading Futures is a lot like shopping at Costco.
Futures traders are required to purchase contracts with large multiples of the Commodity. This would be like buying in bulk and unfortunately Futures traders cannot buy or sell the individual units of the Commodity as their fellow traders can in the Equity markets. When a Futures trader sees a last price on their chart, in a newspaper or on a TV screen they are seeing a unit price for that Commodity. But like all other Commodities, Crude Oil is not traded as a unit.
It is traded as a contract that has multiple units in it. The Crude Oil contract calls for delivery of 1, barrels units of Oil. The only other option a Futures trader has to trade smaller contracts is a mini contract size.
Unfortunately, all mini size contracts for Futures markets are very illiquid extremely low volume. For this reason it is recommended to avoid trading any of the mini Futures contracts.
The exception to that rule is the Stock Index mini contracts. Here the volume is much higher and more liquid than the full sized Stock Index Futures contracts. The next time you are trading Futures and see the last price on your chart, remember this only represents the price per unit and not the entire contract. Listed below in Table 1 are some markets and their contract sizes:.
Perhaps now you can see why Futures prices can be much more volatile than Equity prices. In our Crude Oil example, if a trader went long at When an options contract is first written, the writer of it sells it to the buyer and receives the money that the buyer pays.
Depending on the terms of the contract, the underlying security involved, and the circumstances of the writer, the writer may have to have a certain amount of margin on hand. They may also be required to top up that margin if the underlying security moves against them. However, the buyer owns those contracts outright and no further funds will be required from them.
With futures, though, as both parties are exposed to losses depending on which way the price of the underlying security moves, they are both required to have a certain amount of margin on hand. Price differences on futures are settled daily, and either party could be subject to a margin call if the value of the underlying security has moved against them. This contributes largely to why futures trading is generally considered riskier than options trading.
Below we look at a couple of the advantages trading options has to offer. As mentioned above, when trading futures you are potentially exposed to big losses whichever side of the contract you are on.
If you have the obligation to buy an underlying security at a fixed price and the security moves significantly above that fixed price, then you could lose substantial sums.
Conversely, if you have the obligation to sell an underlying security at a fixed price and the security moves significantly below that fixed price then you could experience sizable losses.
If you are writing options contracts and taking on an obligation to either buy or sell an underlying security at a fixed price, then you are exposed to similar risks. However, you can trade options purely by buying contracts and not writing them. This means that you can limit your potential losses on each and every trade you make to the amount of money you invest in buying specific contracts. Whenever you buy options contracts, the worst case scenario is that they expire worthless and you lose your initial investment.
Even if you do want to write contracts in addition to buying them, you can easily create spreads to ensure that your losses are always limited. The potential for limited liabilities in options trading is a major advantage, particularly for those that are against high risk investments. Another big advantage options trading offers is versatility. There are a number of strategies that you can use to create spreads that enable you to profit from multi-directional price movements.
For example, you could create a spread that would result in profit if the underlying security went down in value a little bit, or if it stayed stable, or if it went up in value by any amount. This would only result in limited losses if the underlying security went down a significant amount.
With futures contracts, you can typically only make money from the underlying security moving in the right direction for you. There could be unlimited losses if your investment moves in the wrong direction or if a neutral result occurs.
Section Contents Quick Links. Advantages of Options Over Futures As mentioned above, when trading futures you are potentially exposed to big losses whichever side of the contract you are on. Read Review Visit Broker.