Futures For You
INSIDE THE FUTURES WORLD
Want to find out how the futures markets really work? Carley Garner, a senior analyst for Alaron who also writes the company's Dow/NASDAQ Report and the Bond Report newsletters, responds to your questions about today's futures markets. To submit a question, post your question at http://Message-Boards.Traders.com. Answers will be posted there, and selected questions will appear in a future issue of S&C.
As a futures trader, should I place stop orders in the electronic overnight markets or only in the day session?
This is a personal preference and the decision should be made independently for each market. Several years ago, overnight sessions were extremely thin and often resulted in stops being triggered that arguably shouldn't have been. However, as the electronic markets have become more popular and trading increasingly global, the liquidity in the overnight sessions has picked up dramatically in most markets. The volume improvements make working stop orders overnight much more attractive.
In my opinion, stop orders should be placed in the overnight session for most markets. With the exception of the CME meat markets, the overnight markets have become relatively fluid and in doing so may avoid slippage due to gaps on the day session charts resulting from large overnight moves.
With that said, it is important to realize that some markets don't give you a choice and others make it extremely inconvenient to do so. In the case of the CME currencies, all orders are placed on their Globex electronic platform. This means that a good till canceled (GTC) order will work around the clock, except when the market is closed. Due to the nature of the currency market, however, this makes sense. Currency trading is so global it is not uncommon for prices to move more when many of us are in bed than otherwise.
Trading futures on the softs, such as orange juice and cotton, isn't nearly as convenient. At the time of this writing, it wasn't possible to place a GTC order in the electronic soft contracts traded in the IntercontinentalExchange (ICE). Each day that you want your order to be working, you have to place the trade. Even more inconvenient is the fact that the overnight session doesn't begin trading until 1:30 am Eastern time. I don't know about you, but getting up in the middle of the night to place an order doesn't work for me.
In addition, the exchange currently doesn't accept stop orders; instead, it is possible to place a "stop with limit," which is simply a stop order in which the trader specifies the slippage he or she is willing to accept on the fill. However, it is important to realize that if the market trades through such an order, the trader is naked; he or she still doesn't have a stop order working. In the wrong market conditions, this could be a nightmare. Traders used to have the ability to place GTC stop orders in the open outcry pit, but as of February 29, 2008, the pit closed.
The hardest part about trading commodities is being privy to the functional dynamics of the markets such as opening times, liquidity, and so on. If you are having difficulty understanding these things, that may have an impact on your trading. Because of this, I suggest that beginners use a full-service broker until they become acquainted with the markets.
Can options on futures be traded in the overnight markets?
The commodity markets migration into electronic execution from open outcry has led to overnight option trading in some markets. In theory, traders can buy or sell options nearly 24 hours in certain markets such as the Treasuries, grains, currencies, and mini-stock indexes. Note I used the phrase "in theory." Many of these option markets are thinly traded during the night session and in some cases the day session, creating unfavorable bid/ask spreads. As you might imagine, the slippage can be large. It doesn't hurt to have a limit order working at a price you will be content with, but don't make the mistake of entering market orders or even chasing prices. In many cases, though, a market order will be rejected by the electronic exchange if a fill is beyond a predetermined range. Nonetheless, you don't want to be surprised by an outrageously bad fill.
But if you are trading option spreads, the electronic market isn't a feasible alternative. While things may be different in the future, there currently isn't an electronically executed back-end system capable of accepting spread orders. Of course, a spread trader could execute one leg at a time; doing so leaves the trader at risk of being filled on one leg but not the others. This can be detrimental.
Which electronic option markets should I consider trading?
The best electronic option markets I have seen in terms of liquidity, narrow spreads, and convenience of trade are the emini S&P, the 30-year Treasury, and the 10-year note. Each of these markets are relatively easy and, even more important, painless to trade. By "painless," I mean that the hidden costs of trading the market such as the bid/ask spread are reasonable. For those who are unaware of what the bid/ask is, it is the difference between the price you can buy an option for and the price you can sell it for at any given time. The spread between these two prices is the floor broker's compensation for the risk of taking the other side of the trade.
The CBOT's mini-Dow is also popular, but additional caution is warranted. The liquidity in this option market can be spotty at times, making limit orders a must. Likewise, should you ever get caught in a fast-moving market, be prepared for wider bid/ask spreads, causing the slippage in fills to be significant.
Electronic grain and currency options have recently been added to the list of possibilities and are growing in popularity.
Originally published in the May 2008 issue of Technical Analysis of STOCKS & COMMODITIES magazine. All rights reserved. © Copyright 2008, Technical Analysis, Inc.
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