Trading futures contracts is a way to add extra leverage to your portfolio or to hedge existing positions with minimal capital. If you are considering opening a futures account, you only need a certain amount of money to open an account, but you may need even more depending on the type of futures contracts you want to trade.
This article explains the minimum deposits you need to make when you start trading futures. It also covers what can happen if your account falls below the minimum amount required to trade.
Two minimums to be observed
There are two minimum values that new futures traders need to know when opening a brokerage account – the broker minimum and the margin minimum.
The broker minimum varies from institution to institution. The minimum values have fallen sharply in recent years. Some brokers have even waived the minimum deposits required to trade futures.
(Note that while commissions on futures contracts may be small or no minimums, they vary widely from broker to broker. It is better to first select a broker that you like with good commission prices, and then select the minimum deposit required for that To determine the start of trading.)
The minimum margin depends on the futures contract you want to trade and is determined by the exchange on which the contracts are traded.
Margin is different from margin in a stockbroker’s account when discussing futures contracts. Margin on stocks is a loan against your portfolio. The minimum margin for futures contracts determines how much you need in your account to start trading certain contracts. For example, the minimum margin for trading the E-mini S&P 500 Index Futures contracts is $ 12,650.
The minimum margin depends on the underlying value of the contracts and the volatility of the contracts. The lower the value, the lower the minimum margin. In addition, contracts with lower volatility also have relatively lower minimum margin requirements.
It is important for investors to be aware of the maintenance margin as well. The minimum margin is usually 10% higher than the maintenance margin requirement. For example, while the minimum to trade the E-mini S&P 500 Index Futures is $ 12,650, only a maintenance margin of $ 11,500 is required. This leaves room for maneuver if an investment loses value.
Fall below the margin
If your account value drops below the maintenance margin, you will need to add more funds to your account or liquidate your position.
What you need to know is that futures accounts are valued at market value at the end of each day. If the value of the contracts you hold decreases, this amount will be debited from your account. So, depending on the margin requirements, a position doesn’t have to move very much against you before you need to add more money to your account.
For example, the E-mini S&P 500 contracts cost 50 times the S&P 500 index value. If the S&P 500 is trading at a level of 4,500, the contract value is $ 225,000. However, your broker only requires you to raise a margin of $ 12,650 to take control of the contract.
If the S&P 500 falls 23 points to 4,477, the value of the contract will decrease by $ 50 times 23 points, or $ 1,150. Your broker will withdraw this amount from your account at the end of the trading day if it is marked at the market price.
If you initially only topped up your account with $ 12,650 to purchase the contract, you will only have $ 11,500 left in your account. This is exactly the maintenance margin required on the contract. So if the S&P 500 falls more than 23 points, in this example only 0.5%, you need to add more money to your account.
There are constant fluctuations of 0.5% in the S&P 500. It is advisable to allow for additional margins by replenishing your trading account with some extra cash.
This also shows the power and risk of using leverage. While a 0.5% fluctuation in the value of the S&P 500 Index is not uncommon, it means a loss in value of more than 9% for your futures trading. Additionally, your broker won’t be too happy with you and you will have to raise extra money. The biggest risk is that you won’t have enough money to take the volatility and your broker will liquidate your position at a loss before your investment thesis takes effect.
The upside, however, is that if the S&P 500 index (or the asset you buy futures in) goes up, your profits will be multiplied thanks to the leverage of futures contracts. For example, a 0.5% increase in the S&P 500 index is a 9% gain on top of the minimum margin requirements to start trading these e-mini contracts.
An example of a futures trading account
Let’s say you wanted to trade gold futures. If you’re just getting started, the micro gold futures could be bought for 10 troy ounces with a minimum margin of $ 825 and a maintenance margin of $ 750. However, your broker may have a minimum deposit of $ 1,500.
With gold currently trading around $ 1,860 an ounce, it only needs to fall about 0.4% before you hit the maintenance margin level. So while you could take control of two contracts for $ 1,650, depositing a little more cash could provide the buffer needed to trade the gold contracts safely.
If gold only went down $ 7.50 an ounce, you would be faced with a margin call. But if you kept $ 2,000 in your account instead, you wouldn’t face any margin restrictions until gold fell $ 25 an ounce, reducing your position by $ 500 in value. You will need extra cash at this point to hold your position.
Proceed with caution
Depending on the type of futures contract you want to trade, you can get started without spending a lot of money. Just be aware of what your preferred broker is asking in terms of minimum deposits and check out all of the available contract sizes for the asset you want.
Keep in mind, however, that the best strategy for trading futures is to use them as part of a portfolio of stock investments and other assets to add leverage or hedge your current positions. Hence, your futures trading account should be proportional to your other investments to keep the portfolio balanced.
Futures trading is an advanced investment strategy and involves considerable risk due to the leverage available through the margin. You can lose a lot of money very quickly if you are unsure of what you are buying or how your trading account works in relation to the minimum margin requirements.