When I managed money, I almost always knew the answer to every question. Even before my clients asked it.
The answer was “it depends.”
Expected returns? Depends on the market environment and risk tolerance.
The right amount of cash to hold? Depends on personal circumstances.
Whether or not we were the right advisers for a client? Depends on a potential client’s finances.
But there was one answer that didn’t depend on anything…
When an individual asked if they should allocate part of their portfolio to futures, the answer was always “no.”
Chances Are, You Should Stay Away From Futures
Futures are derivatives contracts. Like options, they operate as contracts tied to a specific price and date.
The contracts are essentially agreements to transact a certain quantity of an asset, on a certain date and for a certain price. This makes them great hedging tools, especially on commodities like oil or corn.
Futures contracts also involve leverage, which can both increase returns and magnify potential losses.
The markets are dominated by professionals who understand the fundamentals of futures and the commodities they trade them on. That means individuals are at a unique disadvantage in these markets.
Futures carry more risk than individual investors should accept. They are an asset class where you can lose more than you invest. In fact, potential losses are almost always unlimited.
Brokers will unwind your positions and create large losses under certain market conditions. Under different market conditions, you may not be allowed to sell until market action returns to normal.
There are more potential risks, but you get the idea. Futures are hazardous to your wealth.
However, they can provide incredible trading opportunities. So, you shouldn’t ignore this type of investment.
What you should do is consider options to gain exposure to these markets. One sector in particular seems most ripe for trading opportunities.
The Biggest Winner This Year You’re Probably Not Trading
Futures on commodities are among the biggest winners in the financial markets since the beginning of the year…
Source: The Wall Street Journal
Gasoline, hogs, and other commodities top the list of best performers. Beating out financials, energy, and real estate.
While individuals shouldn’t trade futures on these sectors directly, there are exchange-traded funds (ETFs) that offer exposure to commodities.
The ETFs can suffer large losses when these markets crash, so options on the ETFs could be the best way to balance risks and rewards.
Traders who think gas prices are set to make a big move could consider the United States Gasoline Fund, LP (NYSE: UGA).
VanEck Vectors Agribusiness ETF (NYSE: MOO) invests in companies that are involved in the lean hogs market.
ProShares Ultra Bloomberg Natural Gas (NYSE: BOIL) is one of the funds that tracks natural gas.
iPath Series B Bloomberg Coffee Subindex Total Return ETN (Nasdaq: JO) offers exposure to coffee.
There are ETFs that track almost all commodities. If a trader believes the price of a commodity will rise, they can buy a call. Commodity bears can buy put options.
From a tax perspective, options might have benefits over trading shares of the ETF. Many commodity ETFs use a partnership structure than can complicate taxes. You should always research tax issues before trading these ETFs and consult with a tax professional to understand the implications for you.
Commodities tend to trend for months at a time. This indicates longer-term options with about six months to expiration could be the best trades.
When you buy an option, you can never lose more than you paid to open the trade. This makes options less risky than futures. Options also provide leverage which can increase gains.
Overall, options on commodity ETFs could be the best way for individuals to trade this asset class. While commodities prices have outperformed so far in 2021, that doesn’t mean you’ve missed the boat.
Because traders never “miss the boat”… There’s always another one on its way.
Editor, One Trade
Chart of the Day:
I Ain’t Dead Yet
By Mike Merson, Managing Editor, True Options Masters
Today, heaven help me, we’re looking at a chart of gold.
Gold has done a pretty poor job maintaining its narrative value this year. We’ve seen the U.S. government open the stimulus floodgates and print a ton of currency, and gold isn’t far from where it was before the pandemic.
Granted, it did put on a pretty impressive show one year ago, cracking the $2,000 level for the first time. But it’s since given up nearly all of those gains.
However, on a purely technical basis, it’s hard for me to go full-bear on the shiny yellow metal.
After a wicked futures market dump last week, gold soundly recovered and formed a higher candlestick low on the daily chart, leaving a long wick behind. That’s something like the seventh such touch of the $1,680 level in over a year. Gold bulls are clearly eager to add more exposure at that price.
But if gold is going to break out of this downtrend, it needs to make a higher high around $1,840. Without that, further attempts by the bears to break $1,680 might not get rejected quite so easily.
Managing Editor, True Options Masters