The Key Strategies, Indicators, And Money Management Techniques Of A Professional E-Mini Trader

Introduction To E-minis

One of the most exciting financial vehicles I have seen in my trading career are the index futures and their ability to participate in broad market moves with one trading decision. More specifically, the "E-mini" futures contracts, or eminis,  have been a focal point of my trading as well as many other financial professionals and individual investors.

In fact, many stock traders are finding the advantages of trading the E-minis so compelling that they are making the switch, and like me and many others -- they have made the E-minis their main trading vehicle.

Are you one of those traders who are making the switch from trading stocks to trading the E-minis? Or are you perhaps thinking about it?

If so, Parts I and II are aimed specifically at you. In Part I, I will give you a brief overview of what the E-minis are and how they are traded. And in Part II, I will describe to you the specific advantages of trading the Eminis.

What Are The E-Minis?

Most stock traders have heard of the "S&P Futures." But because you need a large amount of money to trade them, the S&Ps are largely the domain of institutions and large market players with deep pockets.

To open up index futures trading to a wider spectrum of traders, the CME created smaller sized contracts called the E-minis. The E-mini S&P 500 contract was designed with the individual investor in mind. The contract value is 50 times the underlying index (as opposed to 250), just 1/5 the size of the “big” contract. For example, if the underlying value of the S&P 500 futures is 900.00, then one e-mini contract has a value of $45,000.
Before I give you the history behind this, together with more details, let me briefly explain what the E-minis are.

The S&P 500 E-minis, which we’ll refer to as ES, reflects the S&P 500 class of assets.
When you look at an S&P E-mini bar chart...

...you're looking at very close representation of the price action in the S&P 500 Index. The S&P E-minis are therefore a great way to trade the action in the S&P 500 Index.

Besides the S&P E-minis, I also trade the Nasdaq-100 E-minis.

The Nasdaq E-minis (which we’ll refer to as NQ because it reflects a common symbol used by many quote providers), like their ETF counterparts the QQQs, are an effective way to trade the Nasdaq 100 class of assets.

Like the S&P E-minis, when you trade the price action of the NQs....

...you're essentially trading off the price action of the Nasdaq-100 Index.

A Brief But Important History Lesson

When somebody slaps a label of anything that begins with "The History of..." my eyes usually glaze over. However, if you are considering switching from trading stocks to trading the E-minis, this section will probably have some impact on you. Once you understand the motivation behind their creation and why they've exploded in popularity, you will probably be even more motivated to open up your futures trading account!

The Chicago Mercantile Exchange is the largest futures exchange in the United States and the second largest in the world for the trading of futures. The CME offers trading in futures contracts and options on these contracts, primarily in interest rates, stock indexes, currencies and commodities. The CME uses two ways to bring buyers and sellers together: open outcry on their trading floors and GLOBEX around-the-clock electronic trading platform. The E-mini trades through GLOBEX, but has great synergy with the larger pit-traded S&P contract.

In 1997 the Chicago Mercantile Exchange (CME) launched the "E-mini" S&P 500 futures, which has become the fastest growing product in CME history. It was revolutionary in that it made electronic trading open to all investor and trader classes through GLOBEX, the CME's electronic trading platform. What else was visionary was the size of the contract was set at one-fifth of the standard pit-traded S&P, making it available to a broader base of traders.

What I like about the E-mini contract is that every trader is equal. The GLOBEX system is first in/first out, and if you have a better bid/offer, you are executed. In effect, you are in a queue and are price matched.

This contract has met with unprecedented success. The E-mini's opening day volume was about 7500 contracts, and recent average daily volume has seen approximately 500,000 contracts traded.

A recent single-day volume record reached almost a million trades!

While index-based Exchange Traded Funds such the QQQs and SPDRs (both of which I’ve traded in the past) have been catching on in popularity, they do not compare to the substantial growth I have seen with the E-mini futures contract. This contract has substantial liquidity and is an excellent way to trade stock indexes.

The Similarities And Differences Between Trading Stocks And Futures

In Part II, I want to cover the mechanical similarities and differences between trading the E-minis and stocks.
Let's take a look at the basics. With both E-minis and stocks, you can go long and then close your position by selling. Also, you can short the E-minis just as you can short a stock. But there is a big difference. Whereas with a stock you have to wait for an uptick, there is no such requirement with the E-minis. In essence, it is just as easy to short an E-mini as it is to go long. More about this later.

What Exactly Are You Trading?

Then there is also the issue of "what" you are trading. With stocks, you are trading "shares." However, with E-mini futures, you are trading "contracts." A futures contract is a legally binding agreement to buy or sell a specific item, at a specific price, and before a specific expiration date.

Many stock traders get hung up on this concept, but from a practical standpoint, you are still trading on the basis of price action.

The main thing you have to keep in mind as an E-mini trader is that there are four contract months: March, June, September and December. Let's say that you are holding a December contract going into expiration month, but you want to hold that position for a longer period of time. You can "roll" the position forward into the June contracts by simultaneously selling your December contract and buying the March contract.

What Happens When The Price Moves?

When you are long or short the S&P E-mini, you should know the following:

The ES is priced in 25-basis-point increments (i.e. 920.00, 920.25) and equate to $50 per contract in profit or loss for every 100-basis-point move (920.00 to 921.00).

So, if you are long one S&P E-mini contract, and the price moves up 500 basis points, your contract value will increase in value $250.

When you are long or short the Nasdaq-100 E-minis, a different point increment is used:

The NQ is priced in 50-basis-point increments (i.e. 980.00, 980.50) and equate to $20.00 per contract in profit or loss for every 100-basis-point movement (i.e., from 980.00 to 981.00).

Therefore, if you are short one Nasdaq-100 E-mini contract, and the price moves down 500 basis points, your contract value will increase in value $100.

What Kinds Of Orders Can You Place When Trading E-Minis?

As with stocks, you can place both limit orders and market orders. However, when placing stops, you must be aware that the Globex only accepts Stop-Limit orders. In this kind of order, you must specify a limit price when placing your stop. Once the stop price is reached, the stop-limit order becomes a limit order to buy or to sell at the specified price.

Most stock traders are familiar with stop-market orders. This means that once the stop price is reached, the order becomes a market order. Globex does not accept these.

There are many other details that I could include in this introduction, but my main purpose is to convey the idea that if you are stock trader, E-mini futures are not as exotic or hard to understand as you may think they are. Please consult your broker in order to gain an in-depth knowledge about the mechanical intricacies of E-mini trading. To give you give a better understanding of why so many stock traders are shifting their focus to the E-minis, in Part III I'll take you through some of their advantages.

Why Trade The E-Minis Over Stocks?

Let's move on and look at the many advantages that E-minis have over trading individual stocks.

Leverage

The first advantage the E-minis have over stocks is the fact that the leverage is amongst the best in the business. If you daytrade stocks, you can leverage your money 4:1. If you hold positions overnight, the leverage drops to 2:1.

But with the E-mini futures contract, you are getting a leverage factor of approximately 11:1.

For example, if the E-mini contract is trading at 900.00, you are controlling $45,000 of S&P 500 Index equities.

If your overnight margin (the amount you have to post as bond or the amount held in your account by your broker) is $4000, your leverage is also about 11:1.

When you daytrade the E-mini contract, some brokers will allow a margin of 50% of the overnight. You can see how quickly the leverage can approach over 20:1.

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.

24-Hour-A-Day Trading

Stocks officially trade from 9:30 a.m. ET to 4:00 p.m. ET, plus a few more hours in pre-market and after-hours trading. The E-minis trade throughout the day, for a total of approximately 23 hours. This is key. Why?

Let's imagine if you are long stocks and a terrorist attack occurs at 8:30 p.m. ET. What can you do about getting out of your stocks? Nothing! And you have to wait until morning to be able to get yourself out. BUT if you are long E-minis, you simply go to your screen, click a button and voila...you are flat! And in this day and age, my scenario here is unfortunately not farfetched.

You have unlimited overnight exposure with stocks. With the E-minis, your exposure is limited to the time you receive the information to the time you exit your trade.

There Are Few Overnight "Holes" In The E-Minis

We've all seen stocks open at half their previous day's closing price (or worse!) after they have announced negative news. This is a gut-wrenching event when it occurs.

 If you were long D & K Healthcare (DKWD) on Monday 9/16/02, you might have thought the stock would soon attempt to break above 25. The next morning, however, you saw your share value plunge nearly 60%. That was on news that the company had forecast lower earnings for the first quarter.
 

 If you held shares of IMClone Systems (IMCL) on 12/31/01, you were kicked in the gut as the stock dropped 16% when the FDA declined to accept its application for a new cancer drug.

This sort of thing has never happened to the E-minis. Yes, they gap higher or lower, sometimes 2% - 3%. But they have never gapped down to the extent that stocks sometimes do (as much as 50% - 80%!). And this lower overnight risk allows you to better plan your position size and potential risk on a trade. Remember, stocks make large overnight "holes" all the time. E-minis rarely do.

No Upticks Needed To Short E-Minis

We've all had the unfortunate experience of wanting to get short a stock at a certain price, only to see it not uptick for quite some time. When this happens, our fill is far worse than we hoped for and our edge was greatly diminished. Just as unpleasant are cases in which we see a huge plunge occurring and we don't even dare to pull the trigger because we know there is no way to avoid getting a horrible entry price.

With the E-minis, no uptick is required. Nor do you need to "borrow" it as you do with stocks. You simply hit the bid and you are immediately short.

As I walk you through the real-world examples later in my course, you will see that when my trend and momentum criteria are met, the ease of being able to short the market provides you and me with a huge edge when we trade the E-minis.
E-Minis Are More Difficult to Manipulate

Call me a cynic, but when you have stocks that plunge shortly after brokerage firms make their recommendations, plus the specialists or market makers involved -- the possibility of manipulation exists.

And I would rather not be short a stock that some analyst just happens to fall in love with and then watch as it moves against me when I wake up in the morning. Also, many stocks trade thinly due to the market makers or specialists being unwilling to take size.

This is less of a problem with the E-minis. When they become more popular, their liquidity will become better and better.
The E-Minis Only Have One Personality

Individual stocks trade differently from each other. This is because their price is controlled by individual specialist firms or market makers. You may see exactly the same trading setup in several stocks, but they can all react differently because of the way the specialists run their book. This can be very frustrating.

This is not a problem with the E-minis. In my opinion, they trade much more cleanly and smoothly than stocks, and this makes their behavior much more predictable and easier to trade.

Stocks are not tightly correlated to the movement of the overall market. Let's say you felt the overall market would rise sharply. Obviously, your E-mini position would rise with the overall market. But there is no guarantee that an individual stock will rise, too. As you know, on good market days up to 50% of the stocks will not rise. This leaves you at a big disadvantage. Now even though I am going to teach you how to identify exact buying and selling opportunities, you may want to add your own market-timing indicators to them. These market timing indicators might include the VIX, put/call ratios, Advance/Decline Indicators, the TRIN, etc. If you do decide to use these indicators, they are keyed off of directly timing the market (E-minis). Individual stocks will move in a less correlated manner to these indicators.

The bottom line is: You can have an opinion about direction of the overall market and then try to trade an individual stock according to your directional bias. But then even though you are 100% correct about the market...you can still lose money because the stock went the opposite direction of the market. With the E-minis, you don't have to worry about it moving in a different direction from the overall market.

In conclusion, I have given you a half dozen strong reasons why you should trade the E-minis over stocks. There are other reasons as well which I won't go into detail about here. But just so you know, they include tax advantages (talk to a qualified accountant) and cost-effective commissions.