If you’ve been following along for the past few months, you may have detected a pattern in these newsletters.
In a somewhat long, meandering, but always sincere fashion (and putting my liberal arts education to the best use possible) I have answered the What, Where, and Why of That’s Why We Did That. Inevitably it is time to get to the “Who,” and no this will not be an analysis of one of the greatest rock bands to grace the stage, although that sounds fun.
In this installment, we are going to examine who trades futures (i.e. who are we doing this for?) and why. I am going to answer this question through the lens of my industry experience, which is coming up on twenty-six years, and began when I had a nice full head of hair.
If you google ‘who trades futures’, you’ll generally get a list that looks something like this:
- Hedgers
- Speculators
- Institutional Investors
- Professional Traders
- Commodity Producers & Consumers
- Banks and Financial Institutions
- Algorithmic and High-Frequency Traders
- Retail
As it’s written I don’t think that list could be more boring or difficult to understand.
Additionally, if you google ‘why trade futures?’ you’ll get a list that looks something like this:
- Price Discovery
- Liquidity
- Leverage
- Arbitrage Opportunities
A more nuanced list will look like this:
- Hedging with Futures
- Protective Options
- Spread Strategies
- Interest Rate or FX Swaps
So, who actually trades futures? For me, the list looks something like this…
Hedgers (commodity producers and consumers)
While I have never worked for a commodity-focused IB or FCM, such as ADM Investor Services, I have worked with my fair share of hedgers.
On a macro level, one of the banks I worked for specifically targeted institutional hedge accounts because the lending side of the business used to make large loans to power plants, oil companies and the like.
I remember sitting in a conference room on the trading floor of a major energy company and their head crude oil trader came in to do some trades to test connectivity before the rest of his traders transferred over to our firm. He logs in and promptly starts firing off 100 lots of West Texas Intermediate (which at today’s margin rates is roughly a cool $500K in margin per trade.)(1) I casually mentioned that given the hurdles (their firewalls, our firewalls, who knows how many IT meetings) a few one lots would have done the trick and he said, brazenly, “but I only trade 100 lots”.
On a more personal level, I’ve been to a good amount of farm shows talking to farmers, grain merchandisers, and elevator operators and I’ve learned they use the same terms (basis, anyone?), whether it’s in English, Turkish, Ukrainian or Portuguese, or in Iowa, the Black Sea, or Parana, Brazil.
I’ve also seen jewelers hedge their gold inventory with futures, cattlemen hedge their herds with live and feeder cattle, and public utilities hedge their energy production with a combination of natural gas and electricity futures.
In my experience, while hedgers did not require the fastest platform or connectivity, they did heavily value stability, both from their technology and their broker. At MetroTrade we appreciate these needs and plan to be set up to support them.
Speculators (professional traders, hedge funds, high-frequency traders)
This large pool of customers has provided me with the best memories. Here are some vignettes:
- The time a board member of a major exchange wanted to show off his overnight trading room to some VIPs only to find his sole overnight trader dancing on the desk in his whitey tighties (in the trader’s defense, sometimes a winning trade deserves a table dance and overnight air conditioning was expensive at the time so trading rooms were hot and absolute ovens on Sunday nights).
- The aggressive spread trader who loved racing his Ducati motorcycle through the city streets in the wee hours of the morning (he was later killed, tragically, in an accident when his Lotus lost against a semi).
- The time an industry insider decided he wanted to open a trading account by bringing $80k in cash in a paper bag to our office. To this day, I don’t know if he was trying to be dramatic or just really liked cash, but we told him to write a check like everyone else.
- Fishing in the Gulf of Mexico with one of our biggest professional trading clients, catching what looked like Jaws, and him telling me to put my foot on its head (while wearing flip flops) so he can get the hook out.
I also remember getting a call one afternoon from a trader yelling into the phone in a whisper because he was on a flight to Zurich, forgot he had positions that needed to be closed out, and called me with his head between his legs with the credit-card phone they used to have in the seat backs.
I’m sure if you asked the 12-year-old versions of the characters outlined above none of them would have thought that their career arc would include the title ‘futures trader’, just like my 12-year-old self never would have uttered the term ‘futures broker’ at career day, but the industry (and my memory) is the better for it.
While the ranks of the professional, “pro-tail” and institutional trader have grown steadily over the years, the term ‘high-frequency trader’ is becoming increasingly rare. This is because this realm of the business is just too expensive for anyone but the most well capitalized firms to compete, and there is no such thing as ‘fast enough’ for those with the deepest pockets.
While MetroTrade is not set up to support ultra-high-frequency traders, we do know some folks who do, and we are happy to provide referrals!
For the other traders in this bucket (informally called volatility hunters), I’ve learned that they value variety – they may be trading crude oil one week, cotton the week after and equity indices the week after that. We understand these requirements, and are happy to discuss a trader’s unique needs.
Retail
My experience with retail goes all the way back to my earliest years in the industry, only back then we called them direct trading accounts, as true retail futures really didn’t exist until the advent of the CME micro indices contracts in early 2019. (2)
Before high-speed internet, individuals interested in trading would get set up in trading arcades, and there happened to be one set up for equities trading down the hall from our office. It took a while, but we finally got some of their traders set up to trade futures through us when the bull market abruptly ended as the tech bubble burst in early 2000 and they realized futures attributes meant:
- they could get short as easily as go long
- that the intraday leverage was better than reg T(3)
- and they could gain exposure to other commodities as well as the equity indices
One of their traders would periodically call to complain about bad fills, and while I got pretty good at re-creating what people described to me over the phone, I could not figure out this problem. One day he finally popped into our office and I asked him to show me.
He proceeded to login to the demo platform and enter orders on both sides of the market, getting fills and making money on each transaction, then he turns to me and says ‘this doesn’t happen when I trade in production.’
After picking my jaw up off the floor, I proceeded to explain that the demo platform was not the real market and that the live market behaves differently from the demo for a multitude of reasons, not the least of which being that real money is at stake. He likely closed his futures account after this and stuck to equities trading, for however long that lasted.
In hindsight, clearly, we should have done a better job preparing these types of folks for trading futures. We were operating on the assumption that our customers ‘knew’ the product based on the fact that they were trading in other markets, and that was a mistake. There were also few, if any, tools and resources available online to provide what these traders needed.
At MT we want to make sure customers have all the tools and education necessary to know precisely what they are trading and how the market functions. We also appreciate that retail traders need access to the markets wherever they are, whether that is on their phone (where they do everything else) or on their laptop.
Additionally, we want to provide customers all the resources they need to resolve things themselves, but to be there anytime we are needed.
In a Nutshell
While the stories touched on above were the outliers that I remember, the vast majority of customers I have worked with (whether retail, commercial, or institutional) have been focused, intentional and trading for a stated objective.
Given that the events above occurred on just seven of the roughly 6500 days I have been in this industry, I would not say they are the norm, but they have prepared me to plan for the unexpected, and as a result to build a more resilient brokerage that is prepared for the future needs of our clients.
What I have also learned from past experience is that ‘the who’ of who trades futures is a vastly more interesting group than Google’s list implies, and we look forward to being their futures brokerage of choice for a long time to come.
And that’s why we did that.
(1) https://www.cmegroup.com/markets/energy/crude-oil/light-sweet-crude.margins.html