How to hedge a future carry forward long position?

I want to go long with stock future with positional holding.

Is there any hedging method to protect my position from sudden gap down/ fall ... I'm not interested in using Option.

Please guide

amiuser said:

I want to go long with stock future with positional holding.

Is there any hedging method to protect my position from sudden gap down/ fall ... I'm not interested in using Option.

Please guide

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I’m not really sure why would anyone want trade stock futures, seems like a poor choice of trading instrument in my opinion. Anyway option would be the only reasonable hedge, but you don’t want that.

Apart from options, you could occasionally get out at the close each day and re-enter on open the if you’re afraid of gaps, but that’s not reasonable at all on regular basis apart from when dealing with high risk events such as earnings.

You could also neutralise your futures with the underlying, but again that’s not reasonable solution at all, but rather an emergency one, not only it would be commission intensive, but it you’d need to have enough money in your account.

If you’re not willing to accept that it might gap against you, then don’t trade it, especially when you're unsure about how to effectively manage it in case it goes against you.

^What he said.

Just set a trailing stop loss and that should protect u except against the nastiest of gaps.

If you're really dead set on protection, you can use CFDs and set a "guaranteed stop loss order" that some providers offer: Even if the price gaps thru your stop, your exit price will be the set stop price.
However you'll need to pay handsomely for the privilege.

skyQuake said:

^What he said.

Just set a trailing stop loss and that should protect u except against the nastiest of gaps.

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This wont work. Exchange is not open 24x7.

also , I dont want to use options ....I'll be doing future trading. ....there is an issue with option liquidity in our exchange.

Forget the option please.

How about calender spread in future trading ? does that manage risk ? If so when to enter and when to exit ? how the profit is taken .....I am not clear with this.

amiuser said:

How about calender spread in future trading ? does that manage risk ? If so when to enter and when to exit ? how the profit is taken .....I am not clear with this.

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Calendar spreads incur basis risk. Nonetheless, they can be used to hedge your long position by selling the outer contract. But, really, this is just taking no directional position at all and mostly positioning on the basis of deviation of fair values embedded into each contract.

If you aren't going to use options and are concerned for a market gap and want to remain open and at risk in a directional play, this doesn't work.

Given the restrictions you are putting on this, the hedge you are looking for is a basket of (generally linear) assets whose value rises in the event of an economic shock but which ideally does it's own thing otherwise. This is a kind of protection option but it is a 'jelly hedge' because the instruments are not directly related to equity index futures. They are correlated with them in some way, but the correlation is not assured.

If you are wanting to go down this route, I'll step off and let others give you guidance about basket formation/composition/hedge implementation. I'd be curious to learn how others approach this, for one thing. But, from the questions you are asking, I would raise a caution flag about undertaking this activity unless you are confident that you can assess the risks. A basket jelly hedge over an equity index is not exactly run of the mill. This stuff can blow you up. It has blown up entities staffed by very smart and experienced people.

Further to SkyQuake's views, IG Markets does not offer guaranteed trailing stops but they do offer guaranteed stops. Whack one of these on, for an insurance premium, and your stop is guaranteed even if the market gaps overnight. The drawback is that this risk limit must be determined at initiation. Although this actually embeds an option into your trade, just ignore that I even wrote this and think of it as a cast iron limit that holds even in an overnight/weekend correction or other non-trading period.

If you don't want to do any of the above, you can't take the risk you had in mind. Your choices come down to reducing it or removing it.

In commodity market , there is no OPTION --- only FUTURE trading ... example. crude oil , Copper etc

How the pros manage overnight risk there ? Don't they carry forward positions ?

amiuser said:

In commodity market , there is no OPTION --- only FUTURE trading ... example. crude oil , Copper etc

How the pros manage overnight risk there ? Don't they carry forward positions ?

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I certainly can't answer your questions, but this publication by Price Waterhouse Coopers gives an easy to read introduction which might lead you to some of your answers.

http://www.pwc.com/gx/en/metals/pdf/managing-commodity-risk.pdf

amiuser said:

In commodity market , there is no OPTION --- only FUTURE trading ... example. crude oil , Copper etc

How the pros manage overnight risk there ? Don't they carry forward positions ?

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There are options on commodities. Check out CBOE. Anything that moves has an option on it. In relation to linear exposures to commodities, you can even place a guaranteed stop on them just has you can for equity markets in aggregate and on individual stocks. Here is an order via IG Markets for Copper as an example:



Pro means many things. As insto managing large books of risk, there are many risks that cannot be fully hedged if you actually want to be in business. Business entails taking/managing risk. Overnight risk was either worn (carried), hedged (usually via correlated holdings), or sold outright. If concerned with overnight gap risk, or gap risk more generally for a position that we were otherwise happy with, options were the most efficient means.

If you like the idea (long equity futures) but don't want overnight risk and eschew the use of any of the above methods, you are left with the process of buying at open and selling at close. All your return needs to be achieved during the normal trading period. You will incur a lot of direct and indirect cost. Most likely, this will erode any edge you might reasonably have developed and result in negative net edge.

Once again, in the absence of using options directly to obtain the desired exposure and hedge gap risk, or using them indirectly via guaranteed stops, you are effectively left with the choice of reducing position size until you can handle gap risk or not exposing yourself to the risk in the first place by not entering the market.

DeepState said:

I'll step off and let others give you guidance about basket formation/composition/hedge implementation. I'd be curious to learn how others approach this, for one thing. But, from the questions you are asking, I would raise a caution flag about undertaking this activity unless you are confident that you can assess the risks. A basket jelly hedge over an equity index is not exactly run of the mill. This stuff can blow you up. It has blown up entities staffed by very smart and experienced people.

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On a side note and off topic, a good hedge for equity portfolio on US markets would be just simply buying VIX Calls, given how currently low VIX is.

In terms of recommending Calendars, I don’t think it would be the best choice since he wants to have a long position because if he’ll be right on direction then the Calendar would take a hit from decreasing IV, plus he wouldn’t be able to adjust or roll the calendar efficiently because he lacks the knowledge to do so. I’d rather go for butterfly timebomb (they’re dirt cheap and require no management) or a sling shot hedge (obviously I’m not recommending it to him because it is beyond most people skills). I’m only mentioning it for the sake of discussion and bouncing ideas of each other. Obviously it is not something one should attempt without a decent knowledge of how to option markets work and how all the Greeks interact with each other in complex spreads.

Also if trading commodities one should use an underlying (a proxy / ETF) with large open interest and stay away from using options on futures since it is a different game. Options on futures use SPAN margin instead Reg-T, plus there are other nuances as well and it is too risky for most people because they won’t even know what hit them.

Again, on a side note, people are better off trading Spot market through CFDs rather than messing up with futures. All of the above is purely for discussion and not something I'm recommending because there are far too many hidden variables.