|
The entry price for the trade is $6.75 and the initial stop loss is to be placed at $6.60, making the risk per share $0.15. Using the full $500 available to risk on this trade, the trader now calculates the number of shares that can be purchased by dividing the $500 by the risk per share. $500 / $0.15 = 3333 shares. Here is the catch. The cost to buy 3333 shares at $6.75 is over $22,000, well above the available $5,000. The maximum number of shares that can be bought is 740 ($5000 / $6.75), forcing the trader into a situation where they can't use anywhere near the full 10% risk on this trade.
However using ISF's is a different story. One ISF's contract is equivalent to 1000 shares, making a one-cent movement in the share price worth $10. The risk per share of $0.15 makes the exposure on one contract $150. Utilising the $500 maximum risk, the trader can buy up to 3 contracts, making the total risk $450 ($150 x 3). The current margin requirements for CML ISF's are $550 per contract, so the total margin requirements for this trade are only $1,650. Remember, buying 3 contracts is equivalent to buying 3000 shares, far closer to the 3333 figure first calculated.
If the trade were exited at $6.97, using outright shares the profit would have been $162.80 (22 cents profit x 740 shares). The profit for the trade using the 3 ISF's, calculates out to $660 (3 contracts x 22 points x $10 per point). Here we have the same share movement, same capital base but a significantly different outcome. To illustrate the point, some assumptions have been made for the sake of simplicity, such as entering the futures trade at exactly the same price as the physical stock. You might need to work through this example more than once to get your head around all the figures, but this example clearly demonstrates how ISF's help by increasing your leverage.
Until next time…
Noel Campbell
|