Getting started trading futures in Hong Kong is not the easiest thing to do. You can take several different ways, but it all depends on what type of trader you want to be. Some speculators make money off volatility, arbitrageurs take advantage of prices that aren’t aligned across different exchanges, and hedgers reduce risk by making logically opposite bets to protect against loss.
Gather risk capital
First off, the minimum contract size for FXI (a broad-based index fund tracking Hong Kong stocks) is 200 shares, so start with an amount that allows you to stay focused if your initial trades don’t go well.
Open an account
Second, you’ll want to open an account with a brokerage firm recommended by someone who trades futures for a living. I’ve found that the best questions to ask are “What’s the worst thing that can happen if my investments go wrong?” and “What’s the worst thing that can happen if my investments go right?”. Once you have your list of risks, rank them from best to worst and then pick your broker accordingly.
Note: don’t focus on commission costs as priority number one—to make money, don’t focus on money.
Get ready for some paperwork. You’ll need to get an “introductory letter” from your chosen broker to register yourself with the Hong Kong Stock Exchange (you can usually email or fax it over). With that out of the way, you’re all set up!
Now you have a risk capital to invest and a broker who’s making trades in your name. What about actually getting something in return?
Futures are contracts with prices that are derived from underlying assets.
There are futures on just about everything under the sun: stocks, currencies, commodities, etc., but let’s stick to interest rates for this guide since they make sense to most people (mostly because banks make money off them).
Before we get into specific examples of using futures, keep in mind: there aren’t any stock index funds tracking Hong Kong interest rates! That means if your goal is to trade an index, your best bet is to trade futures over individual stocks.
Now let’s get into specifics. Check out these examples of how to use futures:
Hedging one contract against the other
Suppose you have 100 shares of stocks you bought for $10 each ($1000 total). You think there’s a 50% chance the stock price will fall within the next year, so you want to hedge your risk by selling enough contracts to cover your entire position if this happens. You can sell 10 contracts at $100 each (total value = 1000) or 25 contracts at $50 each (total value = 1250). The first hedging option costs more but gives you better protection if you’re wrong about the market direction.
Speculating one contract against another
You also think there’s a 50% chance that the stock price will rise over the next year and want to use futures as your way of betting on this outcome.
The objective here is to sell all your contracts back for a profit if the market goes down and repurchase them for less than you paid if it rises. If prices move in your favour, you’ll make money either way because of the “mark-to-market” rule discussed earlier.
Combining hedging with speculation
You see an opportunity to profit from both outcomes. Speculation means betting on the long term outcome, but you still want to protect your position against short-term price swings, so you want to hedge in advance.
A quick primer on delta
Delta is a concept traders use when making options strategies involving futures contracts. If delta is 0, it means no change in the future value of your position will affect its current value. In contrast, 1 means a perfect positive correlation between futures value and underlying asset value. In the oil example, if your consumer good business is affected by a rise or fall in oil prices, you can buy futures. If nothing changes in the future, every dollar added will cost a dollar because it’s a flat price curve with no relationship to anything.