For centuries, trading has been a popular way to grow wealth and generate income. With advancements in technology and the rise of online trading platforms, more and more individuals have started to dabble in various trading markets.
The stock and futures markets are two of the most popular markets to trade in. While both offer the potential for profits, futures trading has several distinct advantages over trading stocks. This article will explore the top five reasons why futures trading is better than stocks.
1. Leverage: More Bang for Your Buck
One of the most noteworthy advantages of futures trading is its leverage. This allows you to control a large amount of an asset with a comparatively small amount of capital.
Leverage is basically a loan from your broker, enabling you to trade larger positions than your account balance would ordinarily allow. As a trader, you only have to pay the margin or collateral that must be deposited to mitigate the credit risk your trade presents to the broker or the exchange.
Let's say you want to trade a futures contract with a notional value of $100,000. In most cases, you would only be required to deposit a fraction of that amount (typically around 3-12%) as payment (margin).
So, with just $5,000 in your account, this means you could potentially control a position worth $100,000. This high degree of leverage can significantly amplify your gains (and losses) compared to stock trading, where you typically need to pay the full value of the shares you wish to purchase.
2. Diversification: A World of Opportunities
Another significant advantage of futures trading is the wide range of markets and asset classes available to trade. Futures contracts exist for various commodities (such as oil, gold, and agricultural products), currencies, interest rates, and stock indices. This variety allows you to diversify your portfolio across different asset classes, sectors, and geographical regions, reducing your overall risk and increasing your potential for gains.
In contrast, stock trading primarily focuses on individual companies, which can make it more challenging to achieve a well-diversified portfolio. While you can certainly invest in different sectors and regions, the choices are still more limited than in futures trading.
3. No Short-Selling Restrictions: Profit from Any Market Direction
In futures trading, short selling has no restrictions, meaning you can profit from rising and falling markets. When you short-sell a futures contract, you essentially bet that the underlying asset's price will decrease further.
If correct, you can buy back the contract at a lower price and pocket the difference as profit. Conversely, stock trading has various short-selling restrictions that can make it more challenging to profit from declining markets.
Some countries and exchanges have rules that require you to borrow shares before you can short-sell them, which can be difficult and expensive. Additionally, certain stocks may be unavailable for short selling, limiting your trading opportunities.
4. Lower Trading Costs: Keep More of Your Profits
Futures trading generally features lower trading costs compared to stock trading. Most futures brokers charge a flat fee per contract, ranging from a few dollars to a couple of tens of dollars, depending on the broker and the specific contract. Moreover, futures contracts are exempt from the Securities and Exchange Commission (SEC) fees and the Financial Industry Regulatory Authority (FINRA) trading activity fees that apply to stock trades.
Since futures contracts are traded on centralized exchanges, the bid-ask spreads (the difference between the highest buying price and the lowest selling price) are often narrower than in stock trading. This reduces the cost of entering and exiting positions, allowing you to keep more profits.
Final Thoughts
Futures trading offers several advantages over stock trading, such as higher leverage, greater diversification, no short-selling restrictions, and lower trading costs, allowing traders to control larger positions with less capital and profit from rising and falling markets. With these advantages, it's no wonder why more and more traders are turning to futures trading to grow their wealth and generate income.
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