events unfolded.Lost opportunity also refers to the problem of having capitalcompletely committed to a series of positions, meaning it is impossible to take action when new opportunities present themselves.This has relevance in the futures market in respect to margin limits,so a trader who is fully leveraged cannot jump when presented witha newly emerging trend.Another version of lost opportunity arises when a portfolio isoverdiversified or overallocated. For example, if you take a largeportion of your capital and use it for a down payment on an investment property, you have a series of advantages: cash flow from anincome stream, tax benefits, and traditionally growing market values. But what if the market slows, stops, or falls? In that case, yourcapital is tied up in an asset that is not growing. Meanwhile, otherinvestments and other markets might be moving very rapidly forward, but because you committed your capital to an illiquid assetlike real estate, you cannot take action. This is also a lost opportunity.Even futures traders who hedge positions can overextend theirmargin leverage, creating a different version of lost opportunity. Ifsuch a trader realizes—too late—that the hedge position involvingoffsetting long and short positions led to missed chances to domore in other markets or in different configurations of futures contracts, then the strategy could prove to be misguided.Lost opportunity risk is expensive even when a specific strategyis successful. If you recognize that other choices would have beenmore profitable or better leveraged, the existing position suffersfrom lost opportunity risk. Traders need to be aware of leveraginglimitations and margin requirements before tying up capital for toolong a period. In the fast-moving futures market, lost opportunity
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can translate to lost profits as well as to future uncertainty; if youdo not want to fall into the same trap in future trades, it is all tooeasy to hesitate and pass on otherwise sound strategic choices.
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Speculation RiskThe common problems traders encounter in overusing margin accounts or forgetting to respect their own self-defined risk profileare well known. But many investors forget to also make a distinction between investing and speculating.Risk and opportunity are clearly associated and, in fact, attributes of the same reality. They are simply two sides of productvolatility. Market risk is the risk that an investment’s value will decline, and, in comparison, speculation risk is the risk that highlyvolatile investments will wipe out a large portion of your capital.Speculators are invariably short-term traders. In comparison, investors usually think in longer time frames, and select investmentswith months or years in mind. So in studying the fundamentalstrength or weakness of a company, stock takes on relative value inthe mind of the investor. The speculator is concerned only withhow price is likely to change in the immediate future—days or evenhours.When the speculative approach is applied to futures trading, itis easy to see why this fast-moving market is so appealing. Manywould-be futures traders stay out of this market for several reasons,but would gladly partake if these inhibiting factors could be overcome. Among the reasons that stock speculators do not alwaystrade in futures, are:1. The market is not as easy to enter and exit. The stock investor can open an online brokerage account for no cost and fund theaccount with a few hundred dollars. It is easy and cheap to buy andsell shares online for very low costs, often as low as $7 per trade.The futures market is not as widely available. To buy and sell futures contracts directly, you need to work through a clearinghouseor commodities broker, and all trades have to go through an exchange member. When you compare the futures market to thestock market, you immediately realize that rules for the futures ex-
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changes are many years behind the liberated access that stock investors enjoy.2. Stocks are widely well understood, but futures are more complex. Most people with money to invest understand how stockswork, and also what factors influence value. The market supply anddemand movement is easily anticipated, and events like earningsreports, mergers, and changes in credit rating are seen immediatelyin the effect on stock prices. The futures market is more complex,with the factors influencing price often based on worldwide economic and political factors, or on price trends not as apparent tomost observers. Market tracking for stocks is a form of instantgratification, but in the futures market, short-term volatility occursbut it is more likely that change is going to be based on subtle,longer-term trends.3. Factors affecting value are not the same as stock market factors. The stock investor can analyze the reasons for price strengthor weakness and, with indicators like the P/E ratio, can also develop a comparative analysis of how the market perceives a company and its stock as a long-term investment. Current pricevolatility further quantifies risk. But in the futures market, there aremany indirect influences affecting price and interactions that aredifficult to gauge. For example, the emerging demand for ethanolhas not only created a new commodity. It has also affected agricultural prices as corn has become more than a source of food andfeed. It will also affect the range of energy futures based on marketanticipation of ethanol as a replacement fuel in coming years.Whether any of this has a long-term effect or not remains to beseen; but today, the potential ramifications of this new energy resource has complicated many related futures prices as well.4. Stocks can be held long-term, but futures contracts rarelyexist for more than a few months. The stock investor can act as bothlong-term investor and short-term speculator. This choice providesone of many forms of potential diversification. But in the futuresmarket, there is no long-term investment. Traders are involved witha contract that has a delivery date coming up quite soon, usuallywithin a year or less. The only way to maintain a position in themarket beyond that is to roll contracts forward to avoid delivery
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dates, which is exactly what pooled investors do. You can also buyshares in pooled investments like futures ETFs, so that your sharesof the fund are permanent. But even with this approach, the actualholdings in the fund are rolled continuously.Speculators—including anyone who buys or sells futures contracts through a clearinghouse or commodities broker—are shortterm strategists. But they operate in the same way that stock marketspeculators do. In fact, chart patterns for futures trading are analyzed in very much the same way as they are for stocks. It is important to remember the major distinction between investing andspeculating. When you act as an investor, you are usually willing towait out a price trend, and you are likely to select investments basedon fundamental trends and indicators. When you act as a speculator, it is more likely that you will focus on price as a primary selection criterion, and track price trends through chart analysis.Speculation is short-term, meaning positions are going to be keptopen for only a few days. Some speculators like to move in andout of open positions over a period of hours only; so the range ofspeculation based on time can involve a very short time horizon.
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Diversification and Allocation RisksJust as the distinction between investing and speculating is oftenfuzzy, the concept of diversification is widely misunderstood. It isoften characterized as a sidebar to a portfolio system, or as sometype of automatic process apart from other considerations. However, if used properly, diversification actually serves as a risk management tool. This is where futures trading as a hedge and as aform of diversification becomes so valuable.There are many forms of diversification, the relatively simpleones focus on a portfolio involving stocks only:• Owning stock of more than one company• Diversifying by sectors with dissimilar economic cycles• Employing equity mutual fundsThese three levels of diversification are certainly effective forspreading risks among stocks and within the stock market. Going
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beyond this, however, diversification may also involve hedging, andtwo specific markets are obvious choices: options and futures. Inthe options market, options can be used to insure paper profits(long puts), take advantage of short-term price declines (longcalls), or to create additional income (covered calls). In the futuresmarket, contracts can be used to offset and hedge positions in specific sectors. For example, a long position in energy sector stockscan be hedged with a short position in energy futures contracts.There are also ETFs on the market designed specifically to shortstock or futures markets.Beyond diversification, the process of allocation involves investment in separate markets. The usual ones involved are stocks,debt instruments (bonds or money market), and real estate. Inmany applications, the ‘‘appropriate’’ level of allocation is determined on a broad and arbitrary percentage basis. You may readonline or in the financial press that ‘‘you should be allocated 40%stocks, 25% real estate, and 35% debt.’’ However, when advice isgiven broadly to the entire market, the underlying philosophy isthat allocation has to be based on market conditions and applies toall investors. A conflicting opinion states an approach completelydifferent: Each investor should allocate the items in his or her portfolio based on perceptions of markets, risk profile, and risk tolerance. This is a more difficult interpretation of asset allocation, butalso a more logical one.There also is a natural conflict between investing and speculating, so thinking about futures as an aspect of a permanent portfoliois contrary to the nature of the instrument. However, if you tradethrough a futures ETF or index, it is conceivably possible to keepshares indefinitely and to treat a futures package as an investment.Another approach is to divide a total portfolio between investmentassets and speculative assets. You may apply a relatively small portion of the total to speculative moves, such as buying of options orfutures contracts; trading in volatile stocks; or buying hard assets(gold, for example) in the belief that prices are going to rise.Diversification is certainly a method for managing risk, byspreading it around to avoid a 100% decline in a portfolio. However, two specific kinds of diversification-related risk are possible.The best known is underdiversification, in which your portfolio is
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not effectively diversified at all. For example, owning shares in fourdifferent energy companies, financials, or retail concerns is not diversification. Because sectors tend to rise and fall as a group, it isnot true diversification to own many of the same kinds of companies.A second and often overlooked risk is overdiversification. Manyof the larger equity mutual funds have so many billions of dollarsin their portfolio (along with restrictions limiting how much theyare allowed to own in any one company) that they virtually duplicate the broader market. As a consequence, any breakout returnsare unlikely. In fact, only about 10% of all mutual funds beat theS&P 500, indicating that mutual fund investing is one form of overdiversification. The solution is to find relatively small funds thatdo beat the market.With ETFs, a similar problem is seen even by individual sectors.Why buy an entire sector when you could focus on one or twocompanies that lead and outperform its competitors? ETFs alsotend to perform at the mediocre average of their portfolio. An exception to this is found in funds focusing on futures investments.Because investing in futures otherwise requires going through acommodities broker (which can be very expensive), picking one ofthe growing number of futures ETFs makes sense. It is cheaperthan buying directly, and of course far less risky than direct ownership.You can also overdiversify within a portfolio of directly ownedstocks. For example, you can effectively diversify risk with four orfive stocks in different market sectors and subject to different economic cycles. So it may be effective to own varying numbers ofshares in only four companies. However, if you were to own half asmany shares spread over eight different companies, is that effective? The risk is that this will overdiversify your portfolio, resultingin no more profits and potentially lower profits overall.One solution to overdiversification is to focus on hedgingrather than spreading risks. For many seasoned investors, this ideais revolutionary, but it should not be. In other words, you do notneed to buy more different company stocks to reduce risks and, infact, that may only add to the portfolio’s market risk. As an alternative, you can focus on a very small number of diverse stock hold-
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ings, and then hedge using futures contracts. The inherent risk offutures is separately diversified by limiting exposure to indices orETFs designed to spread capital among commodities. In Chapter2, several futures-specific indices were examined, as well as ETFswith highly focused commodity sectors or ranges of diversified futures holdings.So a possible solution to the problems of overdiversificationinvolves three possible ideas:1. Focusing the equity portion of your portfolio in a small number of stocks. Rather than trying to accomplish complete risk reduction in a stocks-only portfolio, pick four excellent companies (forexample, low P/E, competitive dividend yield, consistent growth inrevenue and earnings, and low debt ratio). Focus the core of yourportfolio on holdings equally distributed among these companies.Strive for an equal-dollar investment in each of the companies, remembering that odd lot purchases are not much more expensivetoday than round lots. You do not have to buy 100 shares.2. Hedging the portfolio of stocks with futures indices or ETFs.As a replacement for the perceived need to reduce risk with broaddiversification, look for ways to hedge your long equity position.Because markets tend to trend as groups, spreading your portfolioamong many different stocks is not necessarily effective, so hedging is going to be a better strategy to protect yourself. Considerboth the futures and options markets as potential hedging instruments.3. Accomplishing further asset allocation involving debt or realestate, based on your individual risk profile. Many investors are notcontent to diversify their portfolios or even to hedge positions; theywant to accomplish a long-term allocation of investments. If youare buying your family home, you already have a considerable position in real estate; and although you should not think of your homesolely as an investment, it does have many valuable investment attributes. These include the long-term tendency to increase in valueand to hedge against inflation (for example, a fixed-rate mortgageremains unchanged even when other costs rise). You also enjoyconsiderable tax benefits via home ownership and even when you
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sell. (Not only are you allowed to deduct interest and propertytaxes, but upon sale of a home you have lived in for at least two ofthe past five years, you escape all federal taxes on up to $500,000in profit for a married couple, or $250,000 for single people.) Soyou may already be allocated effectively in real estate.Buying shares of income mutual funds also diversifies yourequity positions by adding bonds. You can also use ETFs or relatively new Exchange-Traded Notes (ETNs) to allocate to the debtmarkets.Futures indices and ETFs accomplish two kinds of allocation.First, they place a portion of your capital in a position that hedgesyour equity holdings. Second, they take a short-term trading market and transfer it to an investing market. Because shares of indexor ETF-based futures will appreciate as futures markets performwell relative to equities, your shares in these pooled accounts willact the same as they do in mutual fund accounts. So even whenyour index or ETF is involved with short-term futures contractsand rolling them forward endlessly, your shares act just like otherinvestments. If you choose well and the market performs as youexpect, your share value is going to rise.The potential for success in the futures market relies on determining how to reduce risk, and that requires an understanding ofhow risk works. When you realize that hedging is more effectivethan simply owning a greater number of different stocks, the valueof pooled futures investing is exciting. In the next section of fourchapters, you will see how to reach the market, analyze its strengthor weakness, and identify the overall economic mood. Becausecommodities reflect economic conditions directly, it is crucial toidentify whether the economy is growing or receding. This processbegins by defining specifically how orders get placed, which is thetopic of Chapter 5.
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REACHING THEMARKET
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5
ORDER PL ACEMENT
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hen you begin trading in any market, one of the ﬁrst questions hasto be, How do I place an order? For many novices, this is a greatconcern. You may know enough to realize that if you make a mistake it can cost you thousands of dollars. In this chapter, you willﬁnd discussion of many order speciﬁcations, limits, how orderstrack, margin rules, and more.It is equally important to know what to buy or sell, of course.You should base this decision on a range of fundamental and technical tests, and the chapters that follow cover this. As a ﬁrst step,however, this chapter covers the mechanics of order placement indetail. If you end up buying a futures index or ETF, your task iseasy. Because these convenient pools trade just like stocks, theycan be traded easily and directly through your brokerage account.For example, if you have an online stock trading account, youcan enter the symbol GSG and ﬁnd information on the GSCI Commodity Indexed Trust (see Chapter 2). You can buy or sell sharesin this index as easily and as quickly as you can trade shares ofstock. Options are also available on this index. As of January 2,2008, the fund’s value was approximately $54 per share. The April2008 $55 option could be bought for about $225. You could also79
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get a quote on the StreetTRACKS Gold Shares ETF (GLD), whichprovides the same range of information and ease of trading. Thereare no options on this ETF, but many others do offer them.If you decide to buy or sell futures contracts directly, you willbe working through a commodity broker, pool, or manager. Mostpeople will ﬁnd that using indices and ETFs makes more sense interms of cost, diversiﬁcation, and risk. However, if you do want togo the direct route, then you need to know all about how orderprocessing works. Unlike the buying and selling of index or ETFshares, direct trading is more complex.
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Order SpecificationsWhenever you enter orders (in any market), there are a number oforder specifications you need to know. These seem quite basic, butif you make a mistake it can be a costly one. For example, if youenter a ‘‘sell’’ instead of a ‘‘buy’’ or put in the symbol for live cattle(LC) instead of cocoa (CC), the mistake could be a costly one.So order specifications are very precise and critical, and should bedouble-checked.The specifications are not unique to futures trading. Theyapply—at times with different names—to stocks, mutual funds,ETFs, indices, options, and other markets—and they boil down toa series of terms and conditions. Most people will prefer to havetheir set of criteria met before allowing an order to go forward. Asimplified method is to place an order for immediate executionbased on price movement in a specific futures contract; others willplace standing orders to be executed only if specific conditions aremet. Once you place orders, you can limit potential losses by placing limits or stops. In that situation, a transaction is set to occur assoon as a price level is met or passed. These conditions apply to allmarkets, and not just to futures.The specifications for futures contracts are:Action—simply the distinction between an order to buy and anorder to sell. If you accidentally enter a sell order, you willenter a short position and expose yourself to risks you didnot intend. The importance of specifying buy or sell cannot
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be emphasized too greatly. The risk levels are considerablygreater for short positions in all markets, and futures areno exception. The chance for making mistakes are actuallygreater if you trade online, because there is no additionalstep where someone on the phone or across a desk can ask,‘‘Are you sure?’’ So while online trading is fast, convenient,and cheap, it also requires greater diligence in ensuring thatthe terms—such as buy or sell—are carefully checked andthen checked again before you hit that enter button.Contract number—in other words, the number of contracts youintend to buy or sell. If you want to buy 10 but accidentallyenter an order for 100, the error can be quite costly, forexample, not to mention the difference in risk levels.Specific commodity and delivery—the distinction between thedozens of possible futures contracts, and delivery definesthe timing of and selection of a specific contract. Everycommodity involves a delivery date, and the price varies between them. Some trade quarterly, others in consecutivemonths. However, if you study the quotations for any commodity, you immediately see that prices vary depending onthe delivery month. The delivery month is summarized witha single digit added behind the one-or two-digit code distinguishing one product from the other.You have to enter an order with careful selection of theone- or two-digit code for each product. For example, ifyou want to buy contracts of live cattle (LC) with an Aprildelivery, you need to add a ‘‘J’’ to the live cattle designationand enter the order as LCJ. If you transpose one letter orsimply enter the wrong month, you will trade in the wrongcontract.Exchange—the place where you want the order to be executed.Increasingly, as futures exchanges become more electronically operated and more competitive with each other, futures contracts are being offered on more than oneexchange. The exchanges are the New York Mercantile Exchange (NYMEX), New York Board of Trade (NYBOT),Chicago Board of Trade (CBOT), Chicago Mercantile Ex-
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change (CME), and the Intercontinental Exchange (ICE).Regional exchanges include two significant ones, the Minneapolis Grain Exchange (MGE) and the Kansas CityBoard of Trade (KCBT). Activity of the exchanges is regulated by the Commodity Futures Trading Commission(CFTC), the federal regulatory agency, and the NationalFutures Association (NFA), the industry’s self-regulatorybody.Order type—which affects not only the price you pay or receive,but the timing and level of execution (the next section explains this in more detail).Duration of order—meaning timing of execution. Some ordersare put in for the current day only, whereas others—openorders—are set for execution without a time limit. If a dayorder cannot be filled today, it expires, so the distinctionbetween order types by duration is a key attribute.Price—which may be the most important attribute of all. Sometrades are executed as market orders, meaning they aretraded at whatever price prevails when execution occurs.Otherwise, a price or price threshold is specified and theorder will only be filled if and when that level is reached orpassed (below a specified level for buy orders or above aspecified level for a sell order).
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Types of OrdersYou can place many different orders, each with its own special attributes. Some orders are qualified by timing (for example, day onlyor until canceled), and others are contingent (for example, limitsor stops). Order types include:Market—the easiest and most basic kind of order specifies thatyou are willing to have the order filled at the current marketprice or, if delayed, at any price available at the time ofexecution.Market if touched—an order in which you specify a price; butthe order is to be filled only if and when the price moves to
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that point (a buy market if touched order is normally placedbelow current price, and a sell market if touched is placedabove). Once the price touches the specified level, the orderis executed at current market price. That price may behigher or lower than the price specified in the order; thelevel acts as a trigger and not as an execution price.Market on close—an order to buy or sell at the time the marketcloses for the day, at the closing price. This order specifiesthe time of execution rather than a specific price level.Fill or kill—an order for immediate execution. If a matchingorder (a sell for your buy or a buy for your sell) cannot befound after three attempts, the order expires.Good till canceled (GTC)—a specification that you want yourorder to stand until you cancel it. This is important in somesituations because, without a GTC included, orders are assumed to be good only for the current session. As a result,all orders are treated as day orders (good for today only)unless they are placed as GTC.One cancels other—a qualification when two orders are linked.The desire here is that whichever one gets executed first,the second is automatically canceled.Limit—an order that is to be filled only at a specified price (orbetter). If you are buying, ‘‘better’’ means a lower price;and if you are selling, ‘‘better’’ means higher.Stop—a condition in which the order gets executed if and whenthe market price is reached or moves through a specifiedlevel. But unlike the ‘‘market if touched’’ order, stops workin reverse. A buy stop occurs above market, and a sell stopoccurs below.Stop limit—a combination of a stop and a limit order. Whenthe stop price is reached, the order converts to a limit order.So the transaction gets executed only if the market pricehas reached or surpassed the specified price.Stop close only—an order that is to be executed when tradingcloses for the session, and only if and when the closingprice is at or through the stop price you name.
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Order types have developed based on what the market needs.Traders identify specific strategies for speculation and hedging activity, and as a result the order specifications and combinations become part of the trading system.
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Order TrackingOnce an order has been placed, it moves through a series of stepsbefore it has been finalized. Compared to the stock market, whereyou can execute your own orders online and fairly quickly with aminimum number of steps, the futures market is in many ways archaic. Change takes time. In fact, the advent of built-in diversification and ease of trading through futures indices and ETFs has leftbehind many of the traditional and slower methods. For most people, pooling is a great advantage. And it can be accomplishedthrough an online broker, just as easily as trading in stock.For those who remain interested in buying and selling directly,using a commodity clearinghouse or broker, an exchange memberhas to make every trade. This process may look simple; you simplyplace the order and await your confirmation by e-mail or throughyour online account. But a lot takes place in between, and the orderprocess includes steps made by the following people:Exchange clerks manage the order receipt at the exchange.Commodity brokers call orders in and clerks take themdown by telephone, e-mail, or online account. The clerkpasses the order to the floor broker.Floor brokers are those manic people you see on television’sfinancial shows, yelling back and forth and making handsignals while bidding prices with one another in the tradingring. A ring is used for trading in each type of futures contract. The floor broker has to find a matching price, locating a buyer for each sale order and a seller for each buyorder. This occurs during the open outcry session eachtrading day. Once this match is made, the selling floor broker writes down the time on the order ticket, and thensends the competed order to the card clocker.The floor trader also generates transactions. Also called the
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‘‘local,’’ the trader is the only person in the transaction actually allowed to trade in his or her personal account. Incomparison, the floor broker’s activity is limited to buy andsell for clients. Like the floor broker, the selling floor traderforwards completed orders to the card clocker.Card clockers are those sitting in the center of the large tradingring on the floor of the exchange. He or she stamps everyorder placed, recording the price and time. Time-stampedtickets are then handed off to floor runners.Floor runners gather completed, time-stamped order ticketsand deliver them to data entry employees.Data entry employees enter orders into the exchange system,and the price reporter notes the results in a handheld computer.The price reporter conveys the latest price information from theautomated system to the news ticker, which is viewed bytraders and brokers.Much of the activity in futures contract trading is done manually, and as many as 1,000 transactions per minute are recorded inthis manner. In comparison, stock market transactions are mostlyexecuted automatically. There remain some exchanges and marketsthat continue to rely on hand signals and bidding, but the vast majority of stock market trades are automated. The futures marketcontinues to use these multiple stages with the traditional manualsystem, even though automated processing would be more efficient. Like all markets, it is only a matter of time before volume anddemand mandate improvements.In the history of the stock market, automation has enabled indices to rise to spectacular levels, and daily volume is today at levelsunimaginable 20 or 30 years ago—mainly because stock tradingused to rely on handwritten orders, stockbrokers, and telephoneorder placement. The systems in today’s futures market are verymuch like stock trading two decades ago. Even orders placed online or by e-mail end up being transferred to handwritten orders,date-stamped and physically delivered from card clocker to floorrunners, then to data entry. In other words, an automated order is
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copied out by hand, manually transferred, and then input into theexchange system.It may take a few years for this system to be updated for modern technology. But just as Internet-based discount brokerage vastly changed the stock market, the same types of changes (as well asthe growing popularly of futures indices and ETFs) will eventuallybring the futures exchange systems into the twenty-first century.Figure 5-1 summarizes the current exchange order processingsystem.
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Margin LevelsThe margin level is the level of cash or securities you are requiredto have in your account to cover trading activities. The accountitself is a facility enabling traders to borrow cash to cover leveragedtrades, and the rules are similar whether it is a stock or futuresaccount.Futures exchanges set margin policies, including the minimumamount required to be placed on deposit to enter an order. A second step in margin activity is the futures clearinghouse, which isrequired to adhere to exchange margin rules. Finally, the futurescommission merchant—who has direct contact with traders placing orders—also has to adhere to the margin requirements. TheFCM may also require higher margins from its trading clients.So when an individual wants to trade through a direct account,he or she gives required margin funds to the FCM. This deposit issupposed to be deposited and held in separate accounts for eachcustomer. The FCM pays margins to the clearinghouse, althoughits long and short positions may be largely offset, and only the netdifference is actually transferred. The clearinghouse then sends netfunds to the exchange or notifies the exchange that those margindeposits are on hand.The exchange sets the rules. So minimum margin requirementscan be revised at any time, and can also be used to keep volatilityunder control. The minimum levels can also be increased specifically for contracts in their spot months, when actual delivery ofthe underlying commodity could occur. When margin levels arechanged, they are usually retroactive, so a margin call—demand
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Order PlacementFIGURE 5.1. FUTURES TRADING SYSTEM
CommodityBroker
order is placed
Trader
submitted tothe exchange
Clerk
FloorTraders
OtherFloorBrokers
bidding
FloorBroker
trades in theirown accountscompletedtrades
CardClockerFloorRunnerstime-stampedcompletedorders
DataEntry
PriceReporter
NewsTicker
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for additional funds to be deposited into the account—could occurwhenever margin requirements are increased. If the margin requirement is lowered, that frees up equity and enables traders toremove funds or to increase the level of their open trades. Marginlevels range between 5% and 15% of the delivery value of the contract, and these levels also vary by the specific commodity, basedon minimum contract unit.All exchanges—stock and futures—have systems in place tocurtail excess volatility when markets move many points. The trading curbs used by stock exchanges are a well-known example. Futures exchanges employ a similar procedure called variation marginrules. When clearinghouse members have debit balances at the endof the trading day, their accounts are marked to the market. If variation margin rules are in effect, they are required to cover thesedebit balances before the opening of the next trading session. Thisensures that the exchange will not end up with large debit balanceson clearinghouse accounts. In other words, in times of great volatility, these steps ensure that cash on hand adequately covers openpositions. While clearinghouses are usually allowed to float debitbal