07:52 AM, 24 Feb 2017 (AUS EST)   The market is currently closed       

What are E-Minis Futures? How do I Trade Them?

What is an e-mini? No, it is not the latest character in an upcoming Austin Powers movie nor is it a retro fashion trend. An e-mini is a commonly used term used in futures trading. It generally represents a smaller sized contract, usually one-fifth of a major contract, when index trading. Futures, indices, and tiny contracts? Let’s back up and learn how eminis work.

What is a Stock Index?

An index is a group of stocks. There is usually a theme or a commonality between the bundled companies that constitute the index. The companies may all be small, or traded on a certain exchange, or high tech, or blue chip. Tracking the index allows you to gauge the performance of an entire industry, sector, country, or market.

These are some common stock market indices and what they track:

  • Dow Jones Industrial Average: 30 large US companies
  • S&P 500: 500 large companies traded on the NYSE or NASDAQ
  • NASDAQ 100: 100 of the largest non-financial companies in the NASDAQ
  • S&P/ASX 50 Index: the 50 largest stocks by market cap in Australia
  • S&P/ASX 200 Index: the recognized investable benchmark for the Australia equity market

How to Trade an Index – Futures Contracts

Perhaps you think that a certain industry, sector, or market is about to go up or down. Just how do you go about trading an index to potentially profit from your idea? Are you required to buy the 500 companies in the S&P 500 index, or the 100 that make up the NASDAQ 100, or the 200 that make up the ASX 200? This would not be a cost effective approach to say the least. This is where a futures contract comes into play.

What is a Futures Contract?

It began as a method to buy corn, wheat, cattle, or other commodities in advance. If you wanted to secure a contract of wheat for your bakery business even though it is in the middle of winter, you can buy a contract for a future delivery. A futures contract specifies price, amount, quality, and delivery date. Of course, if the price of wheat drops by harvest time, you still have to pay the agreed upon price which would be higher than market value. If the price of wheat rises you would be happily pay your discounted contract rate.

Indices also have futures contracts associated with them. Thus, if you think the S&P 500 will go up in 6 months you can purchase a futures contract that has a delivery date 6 months from now (index futures have quarterly exercise dates). Just how do you take delivery of an index? You don’t. Instead you settle the difference in between the two parties that made the transaction in cash.

Standard Futures Contracts are Huge

Index futures began in April 21st 1982 and they were expensive to trade. Just how much is a futures contract worth?

US Markets. As an example, multiply the S&P 500 by $250 per index point. If the S&P 500 is trading at 1,300 this gives the futures contract a value of $325,000. Trading on margin will allow you to enter a position with only a fraction of this amount, possible $25,000 to begin and $20,000 as maintenance. Still, to throw around tens of thousands of dollars on a speculative market movement means you need to be a large player.

Australian Markets. If you are trading in Australia, the rates are a little bit different. The standardised futures contract of the ASX 200 is known as the ASX SPI 200 Futures. Each contract unit is valued at $25 per point. If the ASX 200 is at 4,000 – the contract has a value of $100,000.

E-mini Futures Contracts are Small

US Markets. Whereas standard index futures contracts are valued at the index times $250 per point, an e-mini contract is the index times $50 per point – or one-fifth the size of a standard contract. Thus, you can enter a position with only one-fifth of the margin as well. Right now the e-mini contract margin requirement is $5,000 and maintenance is $4,000.

Australian Markets. Instead of trading with tens or hundreds of thousands of dollars, you can use smaller e-mini futures contracts for index trading. The XJO is the symbol for the S&P/ASX 200 index (not to be confused with the SPI 200), and the symbol XFL is for the S&P/ASX 50 index. Each index point is worth $10 in the Mini 200 Futures. Initial margin is $2,500 in the ASX 200, and $2,400 in the ASX 50. Eligible collateral (besides cash) can be used to cover initial margins. Variation margins must be paid in cash.

Thus you can ‘trade the market’ using the leveraged instruments of futures contracts. Let’s walk through an example to see how this works.

Trading E-minis explained

After careful analysis of the NASDAQ 100 index you feel that prices will go up over the next 6 months.

Chart - NASDAQ 100

How will you trade this? You look up the e-mini NASDAQ 100 Futures with the product code NQ. You see futures contracts for next month, four months away, and seven months away since they are listed quarterly. You decide to get the contract for June 2012 which is seven months away.

  • NASDAQ 100 is trading at 2209
  • NASDAQ 100 futures contract for June 2012 (7 months away) is at 2200

How much total value is the e-mini contract worth? Multiply 2200 by $50 which totals $110,000. Your margin for this contract is currently $3,500 with ongoing maintenance of $2,800. Thus you only need roughly 3% margin which gives you 33x the leverage.

  1. You enter the position for $3,500. The following day, your June 2012 e-mini futures contract rises to 2210. Since each point is worth $50, you have profited $500 for a total account value of $4,000.
  2. The day after that the futures contract plummets down to 2180. The 30 point drop multiplied by $50 represents a $1,500 drawdown in your account. The account value is $2,500 which is below your maintenance margin requirements. You need to add $300 to bring it up to $2,800.
  3. The next day the volatile market jumps up to 2200. 40 points times $50 is a $2,000 jump in your account. Now you are up to $4,800. You can continue to trade this until expiration or sell it early. If you sell it early you will have earned $1,000 in net profit.

E-mini Futures are Your Trading

If you want to trade an index, e-minis are one leveraged instrument you can use to do so. Because of their low margin requirements and high volatility, they are often associated with small investor day trading. As well, if you think you have a profitable ‘market timing’ strategy that needs testing, using these tiny e-mini futures contracts could be just the product you need for a high risk/high reward system.