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I've been learning about trading futures markets and had a few basic questions.

The Dec-20 Eurodollar trades at 98.59 (i.e. by Dec-20 investors are expecting 3 month LIBOR rates to be 1.41%).

Now the notional on these contracts is $1million and you only need margin of $550. Which begs the question, why would any retail investor trade this product since its so highly leveraged. Is there a way to choose to take less leverage than that?

Since each tick is $12.50 am I right in thinking that if you did just go for the $550 initial margin payment then the contract would have to move 0.22% against you to wipe you out?

I'm just trying to ascertain if the $1M is simply the exposure that you get, or whether any fluctuations in the futures contract are marked against that large notional amount.

One final point, other than the fact that futures let you take delivery of the underlying if you choose to, why do people trade futures over options? Surely the option is more conservative as you know your downside risk ahead of time.

Thanks.

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An option has a purchase price while a future only has a margin deposit. Now a future can have a required delivery date but can be financially settled before the delivery date.

A Eurodollar future represents only the value of a change in interest rates of a dollar time-deposit in Europe. So in my view, a Eurodollar does not represent a loan value but is fundamentally a hedge of a loan's cost or profit against the effect of a change in interest rates.

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  • Right, it just seems like its a ridiculous amount of leverage, and since you only need a small price movement to wipe you out, i don't really see the point of the product (for retail). I mean obviously for large institutions that are hedging and the like it is good.
    – econexplorer
    Feb 9, 2020 at 17:49
  • What is the amount of a million-dollar Eurodollar loan's interest-cost or interest-income between now and December ? That interest-cost or interest-expense is what is being hedged.
    – S Spring
    Feb 9, 2020 at 17:54
  • What do you mean? The Dec-20 is trading at 98.59.
    – econexplorer
    Feb 9, 2020 at 17:59
  • Using the current contract number of 98.305, the current interest rate is 1.695%. Then a million dollars at eleven months is about $15538 in interest cost. That's the amount that the December Eurodollar future is hedging if for eleven months.
    – S Spring
    Feb 9, 2020 at 18:05
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why would any retail investor trade this product since its so highly leveraged

It's not designed for retail investors.

Is there a way to choose to take less leverage than that?

Yes, put some other cash in a bank account and do nothing with it, or find a smaller contract size.

I'm just trying to ascertain if the $1M is simply the exposure that you get

1m USD is just a number used in the calculation of the futures contract value given a price. Some people call it 'notional' and think it has a deep meaning but really it's just a fixed number in the contract specification. The exchange rules tell you how this all works.

Surely the option is more conservative as you know your downside risk ahead of time.

Indeed it is, but it costs. People forget that when purchasing an option the max downside isn't zero, it's the cost of the premium. Similarly, all other things being equal, the upside of an option will always be less than the future because you had to buy the option (the premium), but the futures contract cost nothing to enter.

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