Hedging

[maildigger 10]

I would like to know if there are people who hedge open intraday positions (by example x contracts ES) to prevent an account blowout by an unpredictable event? Is this practically and financially do-able? My first thought was by options but I have no idea how/if this could be done!

[Palatine 10]

It is extremely rare that an unpredictable event will cause an account blowup intraday except if you are over-leveraged. Even with futures it would require a massive move against your position to trigger a margin call. In case it would, that individual should probably stop trading anyway.

 

To get back to your question, it makes sense to hedge against a long-biased portfolio with a short position in index futures or ETF's if you expect a minor correction. This is a measure to protect a certain amount of profits and reduce exposure.

 

Or if you wanted to hedge an individual position, options are a solution, as well. Say you are long GE stocks and expect earnings to disappoint but you remain bullish for the long-term. What you do is buy put options and pay this premium to protect your unrealized profits. So either earnings are as expected and you let your options expire worthless or earnings disappoint and you reap in the profits or even make use of your rights to sell the stock at a higher than market price. In either case options are understood as an insurance against adverse price movements and that's the primary reason why they have been introduced to the market.

 

Whether hedging makes sense in day trading remains to be discussed. I personally don't think it is necessary, let alone helpful intraday because reducing size would have the same effect as hedging.

[maildigger 10]

Lets say I risk 2% of my account if I take a position in ES. My stop is placed 20 points away from my entry. If I don't want to be (over-)leveraged that means that I need to have a 50K $ account to trade just one contract. What if 'something' happened ...

 

My stop does not get filled at -20 points. That should result in a bigger drawdown (>2%) but not an account blowup. Ok.

 

The market is halted while in a position and re-opens with a big gap away from my entry. This could seriously damage my account. Or do I overestimate this risk by looking for a hedge? Or do you think that by the time the market is halted you should be out of the position?

[waveslider 10]

big point value for ES is $50.

so one contract X 20 points is $1000.

Plus margin requirement +/- $4500 (overnight margin)

2% is a VERY conservative risk with futures since they are leveraged so much. Also, futures e-mini markets don't get halted often (I haven't seen it).

 

As far as hedging goes:

 

If you are position trading the contract - ie. you have a signal on a daily chart that says go long - you open up your position. As long as the signal is valid (you decide this, maybe say if it is above/below the close of the entry day) you let the trade work. If it goes against you, use some other product to hedge. The idea is to let the technical signal work for you in the ES contract, because theoretically the statistics should back the trade.

I think Palatine has a point that usually you would only hedge positions that aren't so liquid intraday (normally a stock position), or something you want to hold for the long term for tax purposes.

Personally, I use the leveraged ETFs (QID,QLD,SSO,SDS) to hedge positions (not futures positions). These ETFs have good volume and percentage movements.

 

futures markets like ES are so liquid that the best idea is just to exit your position (have tighter stops) rather than hedge. Either that, or double the max historical drawdown of your entry signal, add that to the margin requirement and that would be a good min. account size.

 

hope that helps!