Re: [RT] Commodities, especially live cattle, RealTraders Email List Archive

-----Original Message-----
From: Trey Johnson [mailto:dickjohnson3@xxxxxxxxxxxxxx]
Sent: Friday, November 19, 2004 9:42 AM
To: realtraders@xxxxxxxxxxxxxxx
Subject: RE: [RT] Commodities, especially live cattle

Hello Andrew,

You mean there's another reason that driving is risky? Isn't that why people buy car insurance? Futures trading is most certainly riskier than stocks, theoretically.

NW: Why do you think futures are more risky than stocks? If you equalize the leverage, on average, most commodities are less volatile than the average stock. Have you ever seen a commodity lose 50% of its value in one day or become worthless in a few days? I have seen many stocks do that.

First, futures trading is a zero sum game.

Stocks are also a zero sum game.

Secondly, futures have expiration dates. You never have to worry about taking delivery of live cattle when trading stocks.

NW: Only about 1% of all futures are ever used for delivery. This is a red herring argument.

Thirdly, it's a mathematical fact that leverage increases risk. If you have an account fully invested at a leverage of 10 to 1, then a 10% move against you in the underlying wipes you out. They same account trading with no leverage would require a 100% move against you to wipe you out. From a probability standpoint, which is more likely to happen, a 10% move or a 100% move? Please correct me if I'm wrong with my math here as certainly wouldn't be the first time. Of course, someone trading the leveraged account would compensate for the increased risk by trading fewer contracts. In stocks, most people don't trade with leverage. If they do, it's by choice. Plus, they must get approval and there are limits to the amount of margin. However, in futures everyone is leveraged. Therefore, futures trading, from a leverage stand point is most certainly more risky than non-leveraged stock trading.

NW: You are wrong. The leverage offered in futures is optional. No one is making you get fully margined. Comparing futures to stocks by using the fully margined futures example is like comparing apples to oranges. If you want to make a fair comparison, use the same amount of margin for each.

Remember, the risk of loss for futures and stocks is substantial.

Regards,

Norm

As you pointed out, there are measures one can take to limit the risk: position sizing, stops, spreads, options, close trade prior to delivery, etc. Risk management is key.

Back to the original question. One thing I do for any market I trade is go back through the entire history and measure the following.

1. Series of runs. That is, how many times has the market gone up/down X number of days/weeks/months in a row. Starting at 1 up to the maximum.

2. The maximum move up/dn in a day, week, month. Do this as a percentage and in dollars.

3. For markets with daily limits, measure the number of limit moves and then measure how many times the market has made limit moves in row up/dn. What was the dollar value the percentage move each time.

Use all these values and measures as risk proxies, keeping in mind that those extreme, rare values most certainly will be exceeded at some point in the future. Make sure you and your account can handles these possibilities. I hope this helps.

Trey

-----Original Message-----
From: Andrew Nopper [mailto:nopper@xxxxxxxxxx]
Sent: Thursday, November 18, 2004 8:48 PM
To: realtraders@xxxxxxxxxxxxxxx
Subject: Re: [RT] Commodities, especially live cattle

No, I can't agree with the blanket statement that trading futures is very risky. It's like saying that driving is very risky because you might have an accident. As long as you drive ( and trade) defensively, the risk is minimal. Personally, I find stocks to be much more volatile and risky. I speak from experience - just try getting out of Bre-X when it crashes overnight from $45 to $2. That was the last stock I ever bought.

As long as you choose your markets carefully and employ good money management, then futures can be no worse than an average risk. Personally, I stick to the indexes where I've whittled my risk down over the years to a couple of ticks per contract in the minis. Now that's not a lot of risk and, yes, I do occasionally get slippage of a tick in fast markets. It seems like years since there was a limit down in the spoos. I can't recall one since they doubled the daily limits a few years ago..

My point is that futures are only as risky as you make them.

Andrew

----- Original Message -----

From: Trey Johnson

To: realtraders@xxxxxxxxxxxxxxx

Sent: Thursday, November 18, 2004 3:38 PM

Subject: RE: [RT] Commodities, especially live cattle

Unfortunately, no markets are immune to these types of extreme events. Taleb refers to them as 'black swans'. They're much more common than most people and statistics assume and totally unpredictable. I'm not 'in the know', but I think it comes with the territory. Trading futures is very risky because of the leverage. At least cattle has a daily limit, so you know you can't lose more than that in a day;) Although you might not be able to get out and suffer even more limit moves against your position. Personally, I don't trade markets with limit moves because I always want the option of being able to get out if I want. I got trapped in lumber once and I've never traded another market with daily limits again. I hated feeling totally helpless, sitting there hoping that the market will come back just so I can get out. It was awful. It wasn't even a lot of money, but I don't ever want to feel that way again. Trading is risky enough, why add to it by getting into market where you might not be able to get out. Plus, I think those limits are like magnets. They're like sitting targets and those markets want to test them. In your situation, you could hedge with an option. But, do they stop cattle option trading during limit moves? Other ideas: trade less size, trade other markets in addition to cattle to diversify. I hope this helps.

Trey