Why Trade Futures Options?

May 15, 2020

Futures options combines the benefits of both trading futures and trading options and offers a number of advantages over other financial instruments.

Limited Risk – Buying a call or put futures option offers the trader unlimited potential profit and limits maximum risk to the price premium paid for the option. Conversely, the options seller has unlimited risk and can only profit by the amount of futures option premium collected. For this reason, most retail futures options traders are call and put buyers.

24-Hour Liquid Markets – How often have you seen a news event after market hours or over the weekend and wished you could trade that news before the stock market opens on Monday? Many futures option markets trade 24 hours a day six days a week starting on Sunday night through to Friday’s close. Futures Options are actively traded, and the large number of traders generally ensures tight bid-ask spreads, fair transparent pricing and trades can be executed without wild price fluctuations.

Leverage – Futures are traded on margin and futures options buying allows you to control a larger futures position with less capital than trading the futures directly. This can result in much greater profits gained with less capital required. However, this increase in profit potential comes with an equally greater risk of substantial losses. Always have appropriate risk management in place to guard against a big move against your futures position.

Tax Benefits – Futures option traders benefit from a more favorable tax treatment than short-term stock traders; 60 percent of futures options trading profits are taxed as long-term capital gains regardless of how long the trade was open, and the remaining 40 percent of profits are taxed as short-term capital gains. Currently the maximum long-term capital gains rate is 15 or 20 percent, and the maximum short-term capital gains rate is 37 percent. Always check with your tax professional for the current tax rates and how any trading will affect your tax return filings.

Pure Market Exposure – A stock or Exchange Traded Fund (ETF) option trader seeking exposure to crude oil would have a number of challenges. Oil refining stocks are highly diversified beyond crude oil, an ETF like USO uses futures and swaps to create a crude oil price proxy and often these instruments do not directly reflect the price action of the crude oil market. On the other hand, the crude oil futures option trader receives pure exposure to the crude oil market. Each crude oil futures option controls one crude oil future made up of 1,000 barrels of West Texas Intermediate crude oil.

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