If you are an active trader or looking to become one, futures trading might be a great option for you. Futures trading is the process of buying and selling contracts of commodities or assets at a predetermined price to be delivered at a later date. One of the key benefits of futures trading is the ability to trade on discounts, which can increase your potential profits. In this article, we will provide you with a comprehensive guide to futures trading discount.
What are discounted futures trading?
Discounted futures trading is the process of buying and selling futures contracts at a price lower than the market price. This is achieved by purchasing future contracts with a longer expiration date and selling contracts that are near their expiration date, taking advantage of the differences in prices. This strategy is known as ‘carry trade’ or ‘rollover trade’. It can be an effective trading strategy for long-term traders who believe that the market will eventually move in their favor.
How to calculate discounts?
Calculating discounted futures rates involves comparing the prices of contracts with different expiration dates. Futures contracts traded at discounted rates generally have futures contracts with long expiration dates cheaper than those with shorter expiration dates. The price differences can help calculate the level of discount. For example, if the front-month futures price for corn is $5 and the second-month is $4.5, you will get the discount rate by subtracting the price of the second month ($4.5) from the front month ($5) then divide it by the front month price ($5) and times by 100. The result in this case is 10%.
Advantages of discounted futures trading
One of the significant advantages of discounted futures trading is the potential to earn higher profits. Since it involves buying future contracts at a lower price and selling the contracts at a higher rate, the returns for the trader can be substantial. Additionally, the discounted futures trading strategy can work with a wide range of markets, including agriculture, metals, energy, and financial derivatives. Besides, since the trading strategy is focused on long-term market shifts, traders can avoid the volatility associated with short-term market fluctuations.
Risks of discounted futures trading
Like any other investment strategy, discounted futures trading comes with risks. One of the primary risks is related to the accuracy of the trader’s forecasting ability. If a trader makes a wrong prediction about the direction the market will take, he or she can lose a substantial amount of money. Another risk is the rollover cost, which is the cost of switching the contract from one expiration date to another. Depending on the market condition, the rollover cost can either increase or decrease the potential profits of the trade.
Tips for successful discounted futures trading
To ensure successful discounted futures trading, traders should keep in mind several tips. Firstly, traders must take the time to research and analyze the market data, including demand and supply data, contract prices, and economic indicators. Secondly, traders should develop a trading plan that aligns with their goals and risk tolerance. Thirdly, traders must keep a close eye on the markets, monitoring any changes and adjusting their strategies accordingly. Lastly, traders should consult with experienced traders or brokers to learn from their insights and avoid common mistakes.
In summary, discounted futures trading is a viable trading strategy that offers the potential to earn higher profits through price discrepancies between contracts with different expiration dates. However, it also comes with risks, which traders must consider before engaging in the market. To trade successfully, traders should take the time to research and analyze the markets, develop a trading plan, monitor market changes, and seek the advice of experienced traders or brokers. By following these tips, traders can maximize their potential profits and minimize their risks in discounted futures trading.