Online brokerages are luring individual investors into the big-risk and big-reward world of futures trading.
Futures contracts, which allow investors to buy anything from foreign currencies to crude oil on a future date for a specific price, were once reserved for sophisticated traders, stockbrokers and those with a seat on an exchange.
Now, discount brokerages such as ETrade Financial Corp. and optionsXpress Holdings Inc. have rolled out futures trading options. They offer individual investors a chance at a big payday – albeit with a sizeable risk.
“The potential for profit is significantly more versus a single equity,” said Sam Romano, 48, an Arvada veterinarian who for two years has traded futures.
Romano earmarked $8,000 to day-trade future contracts on the movement of the Standard & Poor’s 500 stock index. After a so-so 2004, Romano expects to end 2005 up $10,000.
“You are doing it with less money invested, yet you get enough movement in one day (to make money),” he said.
There is also a potential downside.
“People hear about the potential rewards, but they don’t listen to the risks,” said Don Cassidy, a senior researcher at Denver’s Lipper Inc., who specializes in investor psychology. “Traditionally, individual investors have viewed that area as specialized and somewhat speculative.”
Charles Schwab Corp.’s CyberTrader, Terra Nova Trading and other online services began offering futures to individual investors in the late 1990s. Now, futures trading is picking up steam, partly because stock trading volumes have leveled off at some online brokers, several financial observers said.
Add in oil’s meteoric rise and concerns about inflation, which would increase the cost of steel, grain and other commodities, and buying futures contracts is attractive to some investors.
At the Chicago Mercantile Exchange, the largest futures exchange in the country, about 805.3 million contracts were traded in 2004, up 26 percent from the 640.2 million contracts in 2003.
For MarketWise Trading, a Broomfield investing school, futures trading “is gaining more interest from the average Joe,” said David Nassar, chief executive. He said it is one of the fastest-growing segments of investing at the school.
Wild swing can stabilize
Typically, investors buy or sell futures contracts for a fraction of the items’ actual value. For as little as $5,000, investors can purchase future contracts worth up to $80,000.
Because of that, the risk is great: A major swing in a market or a commodity value will be magnified relative to the initial investment, causing investors to lose more than their original investment if they’re wrong. On the flip side, investors can reap big gains with a relatively tiny initial investment.
Sophisticated investors also use futures contracts to hedge other investments, said David Kalt, chief executive of optionsXpress, which began offering online futures trading this summer.
An investor heavily weighted in U.S. stocks but concerned that the dollar will weaken compared with the euro, for example, could sell dollar futures to minimize risk. The investor could make money on his futures position even if his U.S. stock portfolio stumbled.
On a larger scale, mutual- fund companies purchase futures connected to stock indexes, helping hedge against catastrophic swings in the market.
“If used prudently, futures contracts can be a way to minimize risk,” Kalt said.
No rush to jump aboard
Individual investors have greeted futures trading cautiously, several online brokerages said.
“It’s small right now,” said Kalt, who declined to reveal the number of investors futures trading through optionsXpress.
In the next two years, however, Kalt expects 5 percent to 10 percent of the company’s 143,000 customers to trade futures.
OptionsXpress, based in Chicago, allows clients to trade futures from within their normal equities accounts. The company also plans to offer trading devices, such as trailing stops and trigger orders, to help retail investors establish loss and profit ranges for each contract.
ETrade, which launched its futures option in 2004 but didn’t start marketing it until January, requires investors to open a separate account with a minimum of $10,000.
ETrade charges $3.99 per futures contract, meaning opening and closing a position would cost $7.98. ETrade charges between $6.99 and $14.99 per equity trade, depending on the the investor’s trading balance and frequency.
Investors download the company’s software, which connects traders to the Chicago Mercantile Exchange, before buying future contracts for currency, crude oil, natural gas and financial markets.
“The response has been good but somewhat limited,” said ETrade executive Joe Sellitto. Futures, he said, are for “active traders who are better educated and more risk-tolerant.”
Staff writer Will Shanley can be reached at 303-820-1260 or wshanley@denverpost.com.
