| Are you new to trading? Perhaps you wonder | | | | service, like interest rates, from producers. |
| what the difference is between trading Stocks | | | | To buy stocks, you only need enough money in |
| and trading Futures. Often when I meet someone | | | | your account to purchase the stock outright plus |
| new who inquires as to what I do, I get a | | | | commissions. Once you make the purchase, the |
| response of "that's like trading stocks, isn't it?" | | | | money is removed immediately to make the |
| In some ways they are similar, but only minutely | | | | purchase. With trading futures, since you are not |
| so. So let's consider some of the major | | | | actually purchasing anything but simply entering a |
| differences between the two. | | | | contract to do so at a later time (which you will |
| Most individuals have likely traded stocks at one | | | | exit prior to avoid delivery), the broker will require |
| time or another. Usually, it is to buy in order to | | | | a certain amount of margin (good faith deposit to |
| 'own' a percentage of a particular company or to | | | | cover any possible losses) in what is called a |
| liquidate such partial ownership. They pick up a | | | | 'margin account'. Each commodity has a different |
| phone to call a broker or go online to purchase or | | | | minimum margin requirement depending on |
| sell. The order is facilitated through an 'exchange', | | | | several factors. Your broker may use the |
| such as the New York Stock Exchange for | | | | exchange calculated margin or require a different |
| example. | | | | margin of their own. If the value of the |
| Buying and selling Futures is similar in this respect. | | | | commodity were to decrease and you are on the |
| You can call a broker or go online to buy or sell | | | | buy side of the contract, then your contract has |
| Futures contracts. The order is then facilitated | | | | lost value and your broker will notify you if your |
| througha commodity exchange, such as the | | | | unrealized losses exceeds have gone beyond your |
| Chicago Merchatile Exchange for example. Yet | | | | minimum margin requirement. This is called a |
| while buying a stock gives you part ownership in a | | | | 'margin call'. Naturally you would want to have |
| company or portfolio of companies (as in a fund), | | | | more capital than simply the margin amount when |
| buying a Futures contract does not give you | | | | trading futures to avoid these broker calls. The |
| ownership of a commodity or product. Rather, | | | | broker has the right (and likely will) liquidate your |
| you are simply entering into a contract to | | | | position if you are getting too close to not having |
| purchase the underlying commodity at a certain | | | | enough to cover the losses in order to protect |
| price at a future time, noted by the contract. For | | | | themselves. |
| example, buying one May Wheat at 3.00 simply | | | | With buying stocks outright, there is no potential |
| creates a contract between you and the seller | | | | for a margin call. You simply own the stock |
| (whom you need not know as this is taken care | | | | outright. So perhaps you may be wondering why |
| of via the exchange) that come May you will take | | | | anyone would bother buying futures contracts |
| delivery of 5000 bushels of Wheat at $3 per | | | | rather than stocks. The major answer is: |
| bushel, regardless of what the price of Wheat at | | | | LEVERAGE. |
| market happens to be come May. As a | | | | Leverage gives the trader the ability to control a |
| speculator simply trading to make a profit from | | | | large amount of money (or commodity worth a |
| trading itself and with no interest in actually taking | | | | lot of money) with very little money. For |
| delivery of product, you will simply sell your | | | | example, if Live Cattle futures requires a |
| contract prior to delivery at the going market | | | | minimum margin of $800 to trade a single |
| price and the difference between your buy price | | | | contract, and a single contract represents 40,000 |
| and sell price is either your profit or loss. | | | | lbs at the current market price of say 75, you |
| When you buy a stock, you are part owner of a | | | | would be controlling $30,000 worth for a leverage |
| company. When you buy a Futures contract, you | | | | of over 35:1. This is appealing to many traders |
| simply are entering a contract. With stocks, you | | | | and justifies the risk. What is that risk? Just as |
| will pay for the stock at the time of your | | | | leverage can work in your favor, it can work |
| purchase plus broker commissions. When buying a | | | | against you at the very same ratio. Known as a |
| futures contract, you are simply entering the buy | | | | 'two-edged sword'. |
| side of a contract and no monies is paid other | | | | You can increase the leverage of trading stocks if |
| than commissions to your broker. | | | | you trade with a margin account. This usually |
| Stock exchanges and commodity exchanges are | | | | allows you to purchase stocks on margin at the |
| both membership organizations established to act | | | | usual rate of 50%. So for every dollar you have |
| as middlemen between the buys and sells of all | | | | you can purchase $2 worth of stock. The |
| types of traders, from business entities to the | | | | leverage is 2:1. How this works is that the broker |
| individual small trader. The stock exchange act to | | | | is actually 'lending' you the other 50%. Of course |
| bring capital from investors to the businesses that | | | | by purchasing stock with margin you can lose |
| need that capital. They facilitate the transfer of | | | | more than you have due to the leverage. And in |
| property rights (ownership in the various | | | | this case you can end up getting a 'margin call' |
| companies offering stock).The commodity | | | | from your broker if your stock losses too much |
| exchange act to bring people willing to assume | | | | value. But trading stocks comes no where close |
| risk for the opportunity to make a substantial | | | | to the kind of leverage you get trading Futures. |
| amount of money for taking such risk. This helps | | | | When you look at these two trading vehicles, the |
| transfer the price risk associated with ownership | | | | bottom line comes to MARGIN and LEVERAGE. |
| of various commodities, such as Soybeans, or a | | | | |