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What are single stock futures?
Single stock futures are futures contracts on individual equities. At present, their are over eighty well-known single stock futures contracts such as IBM, Microsoft, and Dell. Single stock futures contracts provide investors with a cost-effective means for participating in U.S. equities markets.
A single stock futures contract is an agreement to purchase or deliver shares of a specific stock at a designated date in the future, refereed to as the expiration date. Typically, single stock futures contracts are not held until expiration as traders usually offset their position - selling if the trader is long or buying if the trader is short.
The price of a single stock futures contract typically tracks the price of the underlying instrument nearly tick for tick, so trading strategies applied in the stock market are generally transferable to trading single stock futures. Single stock futures may therefore be used with a broad range of trading strategies and for a variety of portfolio management needs.
When a single stock future is traded, both the buyer and seller put up a good faith deposit called margin. The margin requirement for security futures is generally 20% of the underlying value of the securities, although this requirement may be lower if the investor also holds certain offsetting positions in cash equities, stock options, or other security futures in the same securities account.
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What are the Advantages of Single Stock Futures
- Selling A Stock Short
Selling a stock short in the equities market is relatively complicated and expensive. A short sale in a stock necessitates locating the shares to borrow and paying the broker loan rate of interest. You must then wait for an uptick to sell the stock short. Waiting for an uptick to sell a stock short in a declining market can be frustrating and costly. By the time a particular stock upticks, it could be substantially below the price at which you wanted it sold. However, in the futures market with the SSF contract, you can sell a stock short just as easily as you can buy one. When you sell a stock short using an SSF contract, you don’t have to wait for an uptick. You can sell when you want, without going through the trouble of finding the stock and without the expense of paying the broker loan rate of interest on the shares borrowed.
- Risk Management
Selling single stock futures contracts can also greatly contribute to risk management in an investor’s portfolio with possible tax benefits. Instead of selling specific stocks in one’s portfolio during market downturns, an investor could sell an equal amount of shares in via single stock futures contracts as a hedge against his or her equities position. The ability to hedge a particular stock facilitates holding onto the underlying position in the stock market for greater periods of time, thereby potentially providing investors substantial tax savings in long-term versus short-term gains.
- Single stock futures speculation
An investor without owning any stock could utilize single stock futures to trade an anticipated increase or decrease in the price of a stock.
- Single stock futures margins
One major difference between stocks and futures centers on the role of margins. For stocks, margins, which are set by the Federal Reserve's Regulation T, have been at 50% for retail investors and 15% for dealers since 1974. A stock investor buying on margin borrows the difference, and can either pay the loan down, or offset it when the security is sold. Futures margins, which are set by the exchange, don't represent a down payment on an asset -- but are rather a performance bond from the investor to the exchange clearinghouse. Margins vary quite widely as a percentage of the underlying asset, but generally are quite low. For example, the underlying value of the S&P 500 future is hovering around $335,000, but the initial margin for a speculator is only $23,438, or less than 7%. The futures investor doesn't have to pay interest on the remaining 93%; indeed, futures investors can deposit T-bills and earn interest on 90% of the deposit with a 10% haircut in their margin accounts.
- Cost Advantage of Single Stock Futures
Single stock futures are traded in 100-share blocks, virtually mirroring the price movement in the single stock on which the futures contract is based. A $1 move in an individual stock equals $100 in an single stock futures contract. There is a big cost advantage here. In order to control shares in a stock, you need to post at least 50% margin and pay interest on the balance. In single stock futures, all that is required is approximately 20%, or less than half the margin required in the stock market. Additionally, there is no interest charge on buying or selling a stock on margin in single stock futures. Essentially, you will earn or lose the same in an single stock futures contract as you would when buying 100 shares of stock.
- Commission Savings by using single stock futures
In all probability, the transaction costs in buying or selling a single stock futures contract amounts to less than buying or selling the same 100 shares of stock in the stock market.
Single Stock Futures - Top of Single Stock Futures FAQ’s Page
- Spread Differentials
Single stock futures offers investors additional investment strategies. For example, if an investor feels the price of one stock will decline or rise in relation to another stock he or she can buy a single stock futures contract on one stock and sell a single stock futures contract on another, hoping to profit from the spread differential between the two stocks anytime up till contact expiration.
- No Clearing Fees on Foreign Markets
Investors can also gain cross border exposure without the expense of going through foreign clearing systems. Will circumvent many of the difficulties faced by investors attempting to trade across jurisdictional boundaries by providing access to UK, European and U.S. shares on a single trading platform. Universal stock futures transactions will be clear of costs of accessing settlement systems across international borders.
- Single stock futures offer greater versatility
Single stock futures allow a trader to potentially profit no matter what direction the market moves. If a trader is of the opinion that the stock market is going to fall, a trader can sell a contract. A profit will be made if the trader then buys that contract back later when the price decreases. This avoids the hassle of stock borrowing.
- Single stock futures electronic trading platforms
Single stock futures are traded on electronic trading platforms available to the public through the internet. Investors will have universal access to the same sources of information, delivery, and speed of execution that only a few years ago were available primarily to professionals. Price fills are routinely provided in seconds.
- How is a Single Stock Futures contract different from an equity option contract?
When you buy or sell a single-stock futures contract, you are obligated to fulfill the terms of the contract upon its expiration (unless you offset the position before then). When you buy an equity option contract, you have the right, but not the obligation, to either buy or sell 100 shares of the underlying stock at the option's strike price by the time the contract expires. When you sell an equity option contract, you are obligated to either buy or sell 100 shares of the underlying stock at the option's strike price at contract expiration.
- Are Single Stock Futures better than trading equity options?
Single stock futures are more straightforward than equity options, where you have to decide which strike price to trade within each contract month, a decision that may involve an analysis of time premium. With futures, it's an easy decision: Do you believe the price of the underlying stock is going to higher or lower than the current price indicated by a certain futures contract when that contract expires? Buy futures if you think the price will be higher. Sell futures if you think the price will be lower. It’s that simple!
- How big are Single Stock Futures contracts?
Each futures contract represents 100 shares of underlying stock. That is the contract size used at LIFFE and by the Chicago Board Options Exchange (CBOE) for equity options.
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How do single stock futures price track with those of the underlying security?
- Single stock futures values are priced by the market in accordance with a theoretical pricing model based on a formula: Futures Price = underlying stock price X (1+ annualized interest rate - dividend)
- Most of the time, single stock futures will trade at a premium to the stock price adjusted for the broker loan rate. The premium reflects the interest earned on the capital saved by not posting the full value of the underlying stock. Since futures holders are not entitled to collect dividends, the futures price must be adjusted downward by the expected amount of dividend payments prior to expiration. In the case where a large dividend payment is expected, the futures contract may theoretically trade at a discount to the actual cash price.
- A single stock futures contract may not always trade at the theoretically correct price due to a number of other market factors, such as whether the underlying stock is difficult to borrow for covering short trades.
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How are Single Stock Futures expiration dates managed?
All futures contracts have expirations dates. There are three basic approaches for managing the expiration of futures contracts:
- Offset your single stock futures position
Prior to expiration, you may offset by covering (buying back) a short position or selling a long position. You do not have to wait until the expiration date to complete your trade.
Example: A trader takes a long position of 2 contracts of XYZ company (equal to 200 shares) that expire in December. To offset the position, the trader would subsequently sell 2 contracts of XYZ with the same expiration month. The trader could just as easily have taken an initial short position by selling 2 December XYZ contracts and then offsetting this position by buying 2 contracts of December XYZ.
- Wait until the contract expires, then make or take delivery
On the expiration date, holders of short positions of stock futures are required to deliver physical shares of the underlying stock, and holders of long positions take delivery of the underlying stock.
This means that buying a single stock future and holding it until expiration guarantees your ownership of the underlying stock after the expiration date. If you offset your position, this process does not apply. Consult your broker regarding its procedures and fees associated with delivery if you are considering holding a stock until expiration.
- Roll the position over from one contract month into the next
If you hold a long position in a given expiration month, you can simultaneously sell that expiration month and buy the next expiration month for an agreed-upon price differential. Thus, the position is transferred, or rolled forward, and can be held for a longer period.
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What are narrow-based indices?
Narrow-based indices are small groups of stocks that allow an investor to take a position in a concentrated are of the equities market such as airlines, computers or semiconductor components. Each narrow-based index generally includes about five companies.
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What are the advantages of narrow-based indices?
Investors can take a long or short position in a concentrated basket of stocks without incurring multiple transaction fees. Many difficult-to-execute or advanced investing strategies such as spread trading or sector rotation can be executed quickly and cost-efficiently, as narrow-based indices are also subject to a margin requirement of 20% of the cash value of the contract.
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Can single stock futures and narrow-based indices futures be electronically traded?
Security futures trading can be fully electronic. Trade processing and clearing are fully automated using state of the art technology.
Single Stock Futures - Top of Single Stock Futures FAQ’s Page
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