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A trader can watch the 30 stocks in the Dow to get a very good idea of how the index is acting or is going to actWith futures, at the end of the year traders don't have to list each individual futures trade like they would have to do with stocks for their tax return. They get a 1099 form from their broker with their total profit or loss for the year. All they have to put on their tax return is that number on the 1099. That is much easier and much less time consuming than listing every trade. Tax treatment is also favorable. For stocks, a trader has to hold them over a year to get classified at the cheaper long- term gain rate. For futures, a trader gets a 1099 that says, for example, $20,000 in gains for the year. Of this, 60 percent of the money is treated as long-term gains (lower tax rate), and 40 percent at the short-term rate. This is the 60/40 rule. This rule holds true even if you go flat at the end of every trading day. This applies to all futures contracts except single stock futures, which are treated as stocks in this regard. It is possible to trade futures in an IRA or retirement account through a trust company. I don't recommend this unless traders have already developed a proven track record in their own speculative accounts. And, if this is the case, I recommend that they then allocate no more than 15 percent of any retirement funds to these vehicles/Traders have no business starting oul in futures using iheir retirement funds. This is like deliberately choosing to go into battle without a bulletproof vest, or, for that matter, a weapon. Each stock index futures vehicle has four contracts that are traded each yean March (H), June (M), September (U), and December (Z). A trader will want to trade the closest month, because that is where the volume is concentrated. For example, if today is February 15, 2005, then the closest month is the March 2005 contract. To get a quote for the March 2005 contract on the mini-sized Dow, a trader would enter in the symbol, month, and year. In this case, that would be YM (symbol), H (month = March), 05 (year = 2005). The full symbol would be YMH05. This is for TradeStation. For eSignal it would be YM H5. Each quote service is a little different. When one contract expires, just start trading the next contract out. The four times a year that the contracts expire are always a little goofy. Just remember that although the E-mini futures expire the same day as options expiration, on the third Friday of the month they are being traded in, the volume actually jumps into the next contract month on Thursday of the preceding week. For example, in March 2005 options and futures expiration was on the third Friday, which was March 18. The volume jumped into the June stock index futures contracts on Thursday, March 10. Bonds actually switch three weeks early. Each contract is a little different. If traders aren*t sure, they just need to ask their broker, write it down, and put it next to their PC. Also, because these are futures contracts, there is always a price difference between two contracts. While the March 2005 contract will say 10686 for the mini-sized Dow, the June contract will say something like 10698. A trader shouldn't be confused by this too much. Futures contracts really are based on future prices, which accounts for the difference. Just remember that each contract is its own entity. Also note there is usually a 10- to 20-point difference between the mini-sized Dow futures price and the Dow Jones Industrials cash price. There is a very complicated explana tion for this, involving basis and future price projections and so on that are not really important to the short-term trader. It's just something to be aware of so traders don't ihink something is wrong with their quote systems. That sums up the basics with regard to the mechanics of trading futures. The key is just to get comfortable with a futures execution platform and how it works. Buying a mini-si zed Dow contract is just like buying IBM (international Business Machines) or GOOG (Google) in terms of mechanics. I also recommend starting off trading one lot at a time. A new futures trader will make mistakes, and a mistake on one lot is much cheaper than a mistake on ten lots or more. A trader who has never used a futures broker before should talk with other traders to check out rates, levels of service, and so forth. On the Web, you can check www.razorfutures.com for a list of different trading platforms and execution systems. THE MINI-SIZED DOW VERSUS THE E-MINI S&P 500 Now that we have covered Futures 101, I'd like to review some of the basic differences between the mini-sized Dow and the E-mini S&R I'm focusing on these two contracts because, in my experience, these are going to be the contracts most of the people reading this either currently trade or will consider trading. I do trade both contracts actively, but the mini-sized Dow does have a few advantages over the E-mini S&P that 1 want to point out. This applies even more for newer traders. THE YM Has Better Spreads Than the E-mini S&P and E-mini Nasdaq The mini-sized Dow (YM) has the same specifications as the popular E-mini S&P (ES) contract: One point in the E-mini S&P equals about ten points in the mini-sized Dow. One point in the E-mini S&P equals $50; ten points in the mini-sized Dow equals $50. Figure 4.3 shows movement on the Dow and S&P over exactly the same time frame. The Dow has moved 13 points lower (from the high at point 1 to the low at point 2), and during this same time* the S&P has moved ! .5 points lower The Dow moved lower in 13 one-point increments. However, the S&P made a similar move in six quarter-point increments. To break this down more simply, when the Dow moves 10 points, it does so in 10 one-point increments. When the S&P moves an equivalent one point, it does so in four quarter point increments. This is a 60 percent difference in the spread. People who are trading the YM over the ES are putting that spread differential right inio their pocket. Commissions and spreads are a cost of doing business, and anything that can be done to reduce costs will improve a trader's bottom line. The spread on the NQ is even wider than on trie ES. Another interesting phenomenon is that nearly all setups on the ES also can be executed identically as the YM. In fact, I often watch the ES for trade setups, and then take them on the YM. However, by using the YM instead of the ES on these setups, a trader will get picked off on stop runs less frequently. Why is this? It goes back to the spread. A 2-point stop on the ES is the same as a 20-point stop on the YM. There are many rimes when the ES will run 2 points on a stop run, and this moves theYM 18 or 19 points, missing the stop. TheYM has 12 extra places to place a stop or target over the ES in a 20-point move. Because of this, I prefer to do my pivot trades almost exclusively in theYM. LIQUIDITY IS KING When the mini-sized Dow first came out, it was trading very little volume. However, the contract caught on fast, and today it trades volume in the six figures nearly every day. The ES is still the big boy when it comes to volume. This is something to consider for some traders. There are traders who are doing a lot of size, or are trading extremely fast, and the extra vol ume in the ES is going to be a benefit. For most individual traders this is not an issue. Although perfect for the smaller retail trader, theYM has caught fire and now has the liquid ity to move size. In trading, volume begets volume, and the YM will continue to expand even more as traders, commodity trading advisers, and managed funds take advantage of the trading advantages of this contract. Staying on the Path of Least Resistance A trader can watch the 30 stocks in the Dow to get a very good idea of how the index is acting or is going to act. I like to place all 30 Dow stocks in a window and have them automatically sorted from strongest to weakest each day on a Net % Change basis. Getting a feel for all 500 stocks in the S&P 500 at a glance is impossible. By doing this with the Dow, I can look at my sorter list and see at a glance that, for example, 26 out of the 30 of the stocks are red (down on the day). This shows all 30 Dow stocks sorted from worst to best on a Net % Change basis. I can watch the list and see that 4 stocks are up on the day al this moment in time, while 26 stocks are down on the day. Later in the day I might see that 11 are up on the day and that 19 are down on the day, and I can tell at a glance that the Dow is getting strongereven if the index is still chopping around. If the individual components of the Dow are getting stronger the entire index will eventually make a run higher. This filter gives me a clean downward or upward bias to the market as I can watch more stocks going red or going green, as the markets start to fall apart or try to improve. This type of at a glance analysis is very difficult to do with 500 stocks that make up the S&P 500 index. Also, with the Dow components, it is easy to see which ones have more weight. If CAT (Caterpillar, Inc), IBM (International Business Machines), MMM (3M Co), and UTX (United Technologies Corp) are all down on the day, this is going to have more of an impact on the Dow than if INTC (Intel Corp), SBC (SBC Communications Inc)T PFE (Pfizer Inc), and HPQ (Hewlett-Packard Co) were all down on the day. Figure 4.5 shows a listing of all of the Dow stocks and the current percent weighting each has within the index. Again, this would be very difficult to do with all 500 stocks of the S&P 500. Easier to Trade Than Stocks If traders currently are in an individual stock, they can have all kinds of outside influences move the price. Maybe insiders are dumping their own stock. Maybe an analyst has just issued an upgrade while the analyst's trading department is dumping shares off to an unsuspecting public. Maybe the company is giving positive forward guidance as its last hope to stave off bankruptcy proceedings. The factors affecting an individual stock are endless. However, when investors in general want to sell stocks, the Dow reacts by heading south. If they want to buy, the Dow spurts green. The Dow effect encompasses individual investors, hedge funds* program traders, and arbitrage traders. In addition, the Dow moves actively in all buy and sell programs. It is supply and demand at its finest, and this is what makes the mini-sized Dow futures contract such a great instrument to trade. Even better, while an individual stock may be halted, the YM trades on. Even on days where the YM could reach a daily pric^ limitwhich is currently a 10 percent move in the entire indexthis could still be offset in the cash market using the Dow Exchange Traded Funds (DIA). If traders have a stock halted that they own, there is nothing to do but waitgenerally for pain. Newer Traders Do Better with the YM It is not an assumption that new traders do better with the YM. This is based on my observation of watching hundreds of traders go through a process in which they move from trading stocks and jump into the futures markets. They start trading the ES, and they lose money. Then they switch to the YM, and things start taking shape and they make money. I've even watched newer traders start off in the YM, and then try the ES, then the NQ, and then the ERand they always come back to die YM. Why is this? Part of die reason is psychologicalit just sounds better to take a 13-point profit as opposed to equivalent 1.25 points in the ES. I've watched ES traders let a small L25 profit turn into a losst whereas a YM trader with an equivalent 13 points will automatically and unhesitatingly sell off a couple of contracts in order to cash in some profits. Finally, it is important to realize that the best traders in the world are trading the ES- As a newer trader, it is not the best idea to The YM doesn't have the same intensity of the ES crowd. Remember, traders are not even trading a marketthey are trading other traders. This may seem like I'm knocking the ESI'm really not. It's an awesome contract to trade, and later in the book there are plenty of setups in which I utilize this contract. However, this is a contract for professionals, and I do think it is better for newer and intermediate traders to stick with the YM in order to improve their odds of success. CONTRACT SPECIFICATIONSWHAT A TRADER NEEDS TO KNOW TO TRADE KEY MARKETS I want to spend a little time going into the contract specifics for some of the markets I just discussed. The most confusing thing about futures contracts for newer traders is that, unlike stocks, each futures market has different pricing specifications and trades in different months. This makes it tricky to figure out how much a move is worth to a trader's P&L, and it is a pain to try to figure out how to bring up a quote. (Note that I have listed all the month codes in the chapter on propulsion plays, but I will also review some of them here.) If a stock trader is buying IBM or RIMM, each still works the same, even though they are different slocks. A move of $ 1 in either stock has the same impact on a trader's P&L. Unfortunately, that's not how it works in the futures markets. Again, if you are already familiar with these, feel free to skim. My intention for newer traders is that you'll be able to use this as a quick reference guide now and down the road as you look at trading additional contracts. Please note that all times discussed are based on the Eastern Time Zone. Mini-Sized Dow (YM)the YM trades on the CBOT until 5:00 p.m. and reopens again for trading a little over 3 hours later at 8:15 p.m. The contract months are March (H), June (M), September (U), and December (Z). The YM moves in increments of one point, which equals $5 per contract. Catching a 30-point move using one contract would equal $150. Traders need around $2,000 in their account to be able to trade one YM contract. Although this contract trades nearly 24 hours, I usually focus on it only during the regular cash market session from 9:30 a.m. lo 4:15 p.m. Quotes on TradeStation for 2005 contracts: YMH05, YMM05, YMU05, YMZ05. @ YM is the continuous symbol. Quotes on eSignal for 2005 contracts: YM H5, YM M5, YM U5, YM Z5. YM #F is the continuous symbol. On eSignal there is actually a space in the quotes as indicated. Continuous means that the contract will automatically change from March to June to September, and so on, on rollover days. For 2006, just change the 05 to 06 for TradeStation and 5 to 6 for eSignal, and so on for following years. E-mini-S&P (ES)the ES trades on the CME until 4:15 p.m., then reopens 15 minutes later at 4:30 p.m. to start the next session. There is also a shutdown period from 5:30 p.m. to 6:00 p.m. The contract months are March (H), June (M), September (U), and December (Z). The ES moves in increments of 0.25 points, which equals $12.50 per contract or $50 for a full one-point move. A ihree-point move in the ES using one contract would equal $150. Traders need around $2,000 in their account to be able to trade one ES contract. Although this contract trades nearly 24 hours, I usually focus on it only during the regular cash market session from 9:30 a.m. to 4:15 p.m. Quotes on TradeStation for 2005 contracts: ESH05, ESM05, ESU05, ESZ05. @ES is the continuous symbol. Quotes on eSignal for 2005 contracts: ES H5, ES M5, ES U5, ES Z5. ES #F is the continuous symbol. E-mini-Nasdaq (NQ)the NQ trades on the CME until 4:15 p.m., then reopens 15 minutes later at 4:30 p.m. to start the next session. There is also a shutdown period from 5:30 p.m. to 6:00 p.m. The contract months are March (H), June (M), September (U)t and December (Z). The NQ moves in increments of 0.50 points, which equals $10 per contract or $20 for a full one-point move. A three-point move in the NQ using one contract would equal $60. Traders need around $2,000 in their account to be able to trade one NQ contract. Although this contract trades nearly 24 hours, I usually focus on it only during the regular cash market session from 9:30 a.m. to 4:15 p.m. Quotes on TradeStation for 2005 contracts: NQH05, NQM05, NQU05, NQZ05. @NQ is the continuous symbol. Quotes on eSignal for 2005 contracts: NQ H5, NQ M5, NQ LJ5, NQ Z5. NQ #F is the continuous symbol. E-mini-Russell (ER)the ER trades on the CME until 4:15 p.m., then reopens 15 minutes later at 4:30 p.m. to start the next session. There is also a shutdown period from 5:30 p.m. to 6:00 p.m. One of my favorite ways to use the Russell is as a leading indicator. It will often time break down or break out before the other three indexes discussed above. The contract months are March (H). June (M), September (U), and December (Z). The ER moves in increments of 0.10 points, which equals $10 per contract or $100 for a full one-point move. A three-point move in the ER using one contract would equal $300. Traders need around $2,000 in their account to be able to trade one ER contract. Although this contract trades nearly 24 hours, 1 usually focus on it only during the regular cash market session from 9:30 a.m. to 4:15 p.m. Quotes on TradeStation for 2005 contracts: ER2H05. ER2MO5, ER2UO5. ER2Z05. @ER2 is the continuous symbol Quotes on eSignal for 2005 contracts: AB H5, AB M5, AB U5, AB Z5. AB #F is the continuous symbol. I have no idea why these quotes are so differ ent from one another on these quote vendors. This contract is attractive as it has the largest daily P & L range of the four electronic stock index contracts. |
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