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Futures - Offshore Trading - Options - Terminology

Futures Trading Overview

Futures trading or commodity trading originated in Asia (Japan) and in Europe (Holland), in 18th century. In the US, commodity trading started by establishing a commodity market place in 1864, the Chicago Board of Trade. This was the first market that offered both spot delivery and futures contracts.

Futures trading differ from spot trading in the following ways. Spot trades are done for actual (and real-time) cash or product delivery. Futures are traded for hedging possible price uncertainties. Spot trades are most often done with a two-day cash delivery method whereas futures trades are commonly done for 3 month or more duration. The futures trades for contracts which expire within the next month or less are also often referred to as spot trades.

Some of the first futures trades where products such as meats, grains and live stocks. Following on from this came futures contracts for a variety of products such including energy products, metals, currencies and currency indexes, stocks and stock indexes, and private and government interest rates. The CME (Chicago Mercantile Exchange) is responsible for the introduction of financial features in 1970s, which very soon became the most traded type of futures.

All futures have unchangeable contract specifications, these are guaranteed by the clearing houses and also margined to minimize counterparty credit risks. They are traded by open outcry of screen in public domain. Futures contracts are almost similar to forward contracts, and often the names are used interchangeably, but forward contracts are typically traded OTC (over-the-counter) through issuer-client or broker-dealer interactions where futures are traded through centralized markets.

Commodity futures are the most common form of futures and are traded all over the world. With the passing of time and new agricultural, livestock and metal/natural commodities are becoming available for futures trading. Futures options are, like stock options, the right to buy or sell futures contracts on a certain price at a specific time. A call futures option is the right to buy a futures contract and put futures option is the right to sell a futures contract.

Stock features or single-stock features are futures contracts for owning an underlying stock. Stock features usually have greater leverage and the holders of futures do not receive/pay any dividends. Stock index futures are meant for multiple purposes like hedging, trading and investing. Hedgers for owning stocks or index options, traders for benefiting from price volatility, and investors for achieving certain goals by not directly owning the stock. Currency features are futures contracts that enable the holder to buy or sell a currency at specified rate at a future date. As these futures are marked-to-market daily, the forex investors can easily overcome the obligation to sell or buy currencies before the delivery date.

In US, futures trading is regulated by CFTC (Commodity Futures Trading Commission). The major worldwide futures trading markets are CBOT (Chicago Board of Trade), CME, ICE Futures, Euronext.Life, London Commodity Exchange, Intrade, London Metal Exchange, TOCOM (Tokyo Commodity Exchange), NYMEX (New York Mercantile Exchange), NYBOT (New York Board of Trade), Sydney Futures Exchange, etc.

Offshore Trading Explained

Introduction

Here at Ideal Services DC, we have many clients around the world that prefer to take advantage of the opportunities offered by investing offshore as opposed to in their domestic markets. But we also understand that this can be a daunting prospect for our less experienced clients. We use a combination of experience and technology to ensure that investing offshore will be a simple, straightforward and stress free process for all our customers.

Ideal Services DC have created this basic guide to help investors, who are new to investing offshore, understand why investing your hard earned cash offshore can be a great idea.

Advantages of investing offshore

Tax Breaks: - We find when we speak with our clients; one of the appealing things about investing offshore is the tax reductions it can offer. Many countries around the world offer tax incentives to foreign investors, commonly known as tax havens. These “tax havens” offer little or no tax liabilities alongside other tax features to encourage foreign investors, attracting outside wealth to the country and in turn helping the domestic economy flourish. As an investor you will only be liable to your countries local taxes after monies have been withdrawn from your offshore account, however our experts here at Ideal Services DC will assist you with any withdrawals to minimize the impact of taxes owed.

Diversification: - Investing offshore also offers the chance to diversify your investment portfolio. Some such ways this can be achieved are as follows:

  1. You can protect your investment against possible depreciation in your local currency and give yourself access to stronger more stable global currencies.
  2. Some countries have limitations on certain investment sectors, investing offshore can gain you exposure to these.
  3. Taking advantage of international or multinational growth cycles and thriving foreign economies.
  4. The opportunity to create a more stable and balanced portfolio within a secure and well-regulated jurisdiction.

Protect Your Assets: - It is popular to use offshore centres as a location to restructure the ownership of assets. It is possible using trusts, an existing corporation or foundations to transfer wealth ownership from an individual to another legal entity. Due to this many individuals, who are concerned about lawsuits or lenders foreclosing on any outstanding debts, choose to move a portion of their assets to an entity that holds it offshore. On paper, ownership transfers such as these mean the individual is no longer susceptible to seizure or any other domestic troubles.

Options Getting Started

Options allow the investor the right, but not the obligation, to buy or sell a specific quantity of a specific commodity (gold, oil, wheat, corn) at a fixed price within a fixed period of time. Options contracts have limited risk, the maximum risk is the amount invested into each option, including brokerage and exchange costs. Unlike futures contracts, options DO NOT incur call margins or deficit penalties that require additional pay-outs in cash liable to the options investor. Option investors can choose option contracts from a wide range of fungible commodities such as: agricultural (wheat, corn, coffee) metals (zinc, copper, platinum) energies (crude oil, unleaded gas, heating oil) or common stock indices (NASDAQ, S+P)

Call Options

A call option gives the investor the right but not the obligation to buy an underlying security at a fixed price. The value of a call option rises as the underlying stock or commodity value increases and falls as the underlying stock or commodity value decreases. Investors buy call options when they expect a certain stock or commodity value to go up during the time period of the option.

Put Options

A put option gives the investor the right but not the obligation to sell an underlying security at a fixed price. The value of a put option rises as the underlying stock or commodity value decreases, or falls as the underlying stock or commodity value increases. Investors buy put options when they expect a particular stock or commodity value to go down and to ensure protection of invested capital.

What Makes Opptions so Attractive?

Traditionally trading options was reserved for institutions and high net worth investors. Now, private investors are benefiting from options as a way to strengthen and diversify their investment portfolio.

Investment diversification

Trading commodity options is an effective and efficient method of diversifying stock portfolios. Options also allow investors to lower risk with unique strategies to take advantage of different characteristics of the market not available in the stock market or with other investment strategies.

Short Term

Most options are traded on short term 1 – 3 month contracts. This gives the investor the advantage of a much faster return on their investment than with stocks, by re-investing many times over in the same time that you might only trade once with shares it increases your chance of profit significantly.

Leverage

Option trading gives the investor the advantage of financial leverage. Leverage strategies increase potential profit by increasing potential returns while minimizing initial capital invested.

Hedging

Options give an investor the ability to hedge against stock portfolio losses. Investors can use options on stock that they already own and use it like insurance on their house or car. Hedging with options gives the investor the ability to establish a position in the options market to offset any loss or fluctuations in an opposite position in another investment.

Risk/Reward Ratio

Option trading offers unlimited profit potential, the greater the price movement in your favour during the life of the option, the larger the profit. Options provide limited risk; the most you can lose is the amount which you invested to purchase that particular option plus any brokerage and exchange fees.

Option Terminology

At the Money (ATM):
This is when the strike price of an option is equal or close to the price of the underlying asset.

In the Money (ITM):
A term used to describe an option with intrinsic value. With a call option this means the stock price is above the strike price. With a put option this means the stock price is below the strike price.

Out of The Money:
A term used to describe an option with no intrinsic value. With a call option this means the stock price is below the strike price. With a put option this means the stock price is above the strike price.

Intrinsic Value:
This is the value of an option if it were to expire immediately with the underlying stock at its current price; the amount by which the option is In the Money.

Expiration Date:
The date by which the option contract becomes void and can no longer be exercised.

Arbitrage:
This is the simultaneous purchase and sale of identical or equivalent assets in two different markets with the intent of profiting by the price discrepancy.

Extrinsic Value:
This is the difference between the option price and the intrinsic value. Also known as the “Premium Value” or “Time Value”

Time Decay:
This term describes the reduction of the options Extrinsic Valueas the expiration date draws nearer.

Strike Price:
This is the price at which the option can be exercised and also the price at which the option begins to gain intrinsic value.

Put Option:
An option granting the holder the right to sell the underlying security at a certain price for a specified period of time

Call Option:
An option granting the holder the right to buy the underlying security at a specified price for a certain, fixed period of time

Bearish:
When an investor is of the opinion that an underlying stock, or market in general, will decline in price – a negative or pessimistic outlook.

Bullish:
When an investor is of the opinion that an underlying stock, or market in general, will increase in price – a positive or optimistic outlook.

Commodity Option:
An option that uses a particular commodity such as precious metals, oil, or agricultural products as the underlying asset

Equity Option:
An option that has common stock as its underlying asset

Index Option:
An option whose underlying asset is an index instead of a hard asset such as stocks or commodities. Most index options are cash-based

Exercise:
This is election by the owner of an option contract to do what the option allows: either buy or sell the underlying asset at the agreed strike price.

Spread:
This is when an investor makes two simultaneous trades in which they buy one option and sell another. The underlying asset is the same for both options.

Straddle:
This is a trading strategy involving both puts and calls on a one-to-one basis in which the puts and call have the same strike price, expiration, and underlying asset. A long straddle is when both options are owned and a short straddle is when both options are written.

Strangle:
The same as a straddle, but the put and call options have different strike prices.

Underlying:
This is the asset from which the option derives its value. It is the asset that the call owner may buy or the put owner may sell.

Rolling a Position:
This is a trading action where the trader simultaneously closes an open option position and creates a new option position at a different strike price, different expiration, or both. This is normally done close to the expiration date.

Hedge:
An investment made with the specific intent of protecting an existing position.It involves taking an offsetting position in a related asset.

The above list is by no means complete or definitive. For a more complete definition or a definition of any terms not included in the above list, please feel free to speak with your Ideal Services account executive.


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