Futures Options: Why You Should Trade Them
Updated: 5 days ago
Futures options give you several advantages over equity options, including tax advantages and minimal margin requirements.
Table of Contents
The Benefits of Trading Options on Futures
Futures options may sound intimidating, but they are an amazingly efficient way to trade options.
One of the primary benefits is you get to utilize span margin, which allows you to minimize capital requirements for trading options.
Span margin is efficient for trading because you only need to put up about 3% of the notional value of the trade.
Therefore, if a futures options contract has $16,000 of notional value, you only need to have $480 for the initial margin requirement.
However, this requirement can change if the volatility of the market rises. Span margin determines margin requirements using a set of algorithms that assess the one-day risk for a trading account.
Difference Between Equity Options and Futures Options
If you understand how to trade equity options, futures options are not much different. The main differences include the exercising style, settlement, contract specifications, and margin requirements.
American style - can be exercised by the buyer at any time
American or European - only exercisable on the expiration date if European
Settle into the underlying stock
Can settle into the underlying future or cash
Same specifications for each contract
Each future has different contract specifications
Contract Specifications of Futures Options
Since there are various types of futures contracts, we will only analyze the S&P 500 futures options, which include the E-mini and micro E-mini S&P 500 futures.
The contract specifications determine the size of the contract you are trading.
E-mini S&P 500 Contract Specifications
One E-mini contract has a multiplier of 50. Therefore, a 4,000 strike /ES contract has a notional value of $200,000 (50 * 4,000)
Micro E-Mini S&P 500 Contract Specifications
One micro E-mini contract has a multiplier of 5. Therefore, a 4,000 strike /MES contract is worth a notional value of $20,000.
SPX Index Options Contract Specifications
The SPX index options have a multiplier of 100, meaning a 4,000 strike SPX contract commands a notional value of $400,000.
The Tax Benefits of Futures Options
The Internal Revenue Code section 1256 states that non-equity options are taxed at a 60/40 split.
60% of profit is taxed at the long-term capital gains rate, and 40% is taxed at the short-term rate.
Options on Futures | Bottom Line
Trading options on futures is an excellent way to sell options with tax advantages and margin efficiency.
The downside is that you can’t effectively use the wheel options strategy since you cannot receive equity upon assignment.
However, you can easily run a short put strategy with minimal capital thanks to span margin. Additionally, you will pay less in taxes compared to stock options.
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