A week of so ago I wrote a brief article about leverage and how emini contracts have highly leverage relative to their individual stock counterparts.  I recieved a number of emails to further expound on this because it is a very important concept to understand.

As an emini scalper, I do not hold any emini contract positions overnight.  The reason is simple, I do not want to participate in a volatile move to the upside or downside while I sleep, especially if I am on the wrong side of that move.  It only makes sense.  I also trade exclusively by watching charts and chart indicators, so my sleeping hours do not allow me to to do this.  In short, I am just more comfortable scalping the emini that trying to swing trade the contract.

The leverage on an emini contract goes something like this for daytraders: (We’ll use the ES contract as an example)

Each point on the ES contract (the S and P emini) is worth 50 dollars, and lets say the ES emini contract is trading at 900.  The math is fairly simple.

900 x $50= $45000

So, in actuality, you are controlling 45K worth of contracts when you daytrade.  How much will the average futures brokerage house ask you to post as margin on a single contract?  Usually about $500, but some have recently raised their daytrading margins considerably higher because of the volatile nature of the market of late.  But there are still plenty of brokerages at the $500 dollar level.  As you may have surmised, this is a fantastic level of leverage and create extraordinary profits on a good move in the market. But it is a two edged sword…it can also create tremendous losses on a good move in the market against the positive you are holding.

Obviously, a good technique for employing stops is needed and I have recently written one that fully explains my position on this topic.

Think about what leverage has done for you with your home. If you buy a home for $250,000 and you put 10% down ($25,000), you will double your money if your home simply goes up 10%. You’ll triple your money if it goes up by $50,000. This is the magic of leverage.

But as you know, this same leverage can bite you. If your home depreciates by 10%, you have lost all the capital you have placed in it. This is why protective stops and correct positions are essential, especially when leverage is in place. But when correctly used, the leverage in the E-mini markets allows your capital to rapidly accumulate at a far greater pace than the leverage offered to you in stocks.

The same principle holds true for trading emini contracts, remember it’s a double edge sword and you need to wield that sword judiciously.