Candlestick Trading Blog

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Spread trading is the sale of one or more futures contracts and the purchase of one or more offsetting futures contracts. When doing this type of trading you are tracking the difference between the simultaneous values of these futures contracts, or in other words, the spread. The assumed risk is the difference between these contracts rather than the price fluctuations.

Two types of spreads are possible if both futures are traded on the same exchange but spreads can also be constructed with futures traded on different exchanges. Spread trading is the trading of futures spreads and for speculators it provides reduced risk when compared to simply trading futures. Futures spreads also typically have less strict margin requirements because the long and short futures that make up the spread are usually correlated and tend to hedge one another.

The calendar spread, also known as the intra-commodity spread is long one future and short another. Both have the same underlier but they have different maturities.  The inter-commodity spread on the other hand, is a long-short position in futures on different underliers and both typically have the same maturity.

Spread traders positions themselves between the speculator and the hedger and assume risks other than excessive price fluctuations. The spread trader assumes the risk of the difference between two related futures contracts in different markets, or between two different trading months of the same futures, or between equity and an index, or between two equities.

There are many advantages according to investors who practice spread trading. Some of which include the following: First, spreads are considered less risky when compared with straight futures trading because every spread is a hedge. Additionally, spreads on futures typically require lower margin than other forms of trading. This results in greater efficiency in the use of capital when compared to buying stocks on margin and margin requirements are even lower than with options trading. Many feel as well that spreads create a more level playing field because there are no stops possible. Another advantage to this type of futures trading is that spread trades are less volatile than other types of trading. This volatility is the reason that margins for spreads are so low and this type of trading is less volatile than trading options, regular futures trading and share trading. The last advantage of spread trading that we will discuss in this article is that spreads avoid problems that are associated with a lack of liquidity. There are more trading opportunities due to this and you can trade is less liquid markets.

There are more advantages to spread trading however investors must make sure they are aware of drawbacks and disadvantages as well. Continue to research this type of trading so that you can determine if it is the right trading strategy for you.

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