How to calculate leverage when trading futures

[nonlinear5]

No, sorry, hold on...

If I have an open position of X contracts, the exchange will compute total margin for this position as some F(X) (as long as we're being all mathematical and stuff). This number is solely a function of the size and nature of the trade or portfolio.

I'll say it again. The margin determines the maximum leverage for a given futures contract. It gives you the upper bound on the number of open contracts that you can have with your account size.

What the OP is discussing is how to calculate the actual leverage while in position. For example, let's say my account is $100K, and I buy 2 ES contracts at 2470. What's my leverage? The answer is the formula given by the OP.

 

[Pekelo]

Maybe I am just confused about what you're trying to achieve here...

I thought that was clear, I want the Nobel prize...

Joking aside, why don't you give us an example using margin, what you think how the calculation should be?

 

[Martinghoul]

I'll say it again. The margin determines the maximum leverage for a given futures contract. It gives you the upper bound on the number of open contracts that you can have with your account size.

Right, fine...

Why is this, possibly somewhat conservative, measure of leverage not sufficient?

 

[nonlinear5]

Right, fine...
Why is this, possibly somewhat conservative, measure of leverage not sufficient?

Because your position sizing (or equivalently risk/exposure/leverage) should not be determined by the margin, but rather by the quality of your trading system.

 

[Pekelo]

If I have an open position of X contracts, the exchange will compute total margin for this position as some F(X)

They just want to make sure you don't dip below the posted margin/contract value. Again an example:

2 traders trading at the same broker, everything being equal except trader A has an account size 10 times of trader B. As they are trading the same instrument and the same number of contracts, trader B will get a margin call way way earlier than trader A. But that was decided by their account size differences, not the margin difference, because they use the same margin...

 

[Martinghoul]

Because your position sizing (or equivalently risk/exposure/leverage) should not be determined by the margin, but rather by the quality of your trading system.

I am not sure I understand that... Are you suggesting that the expected volatility of the position/portfolio should not matter in the calculation of "leverage"?

 

[Martinghoul]

I thought that was clear, I want the Nobel prize...

Joking aside, why don't you give us an example using margin, what you think how the calculation should be?

May I pls answer this with a question?

I can trade 2 ES contracts or, alternatively, I can trade 1 front Eurodollar contract (currently GEU7). If I apply your formula, I would perforce conclude that my account is roughly equally leveraged in those two cases. Is my understanding correct?

 

[nonlinear5]

I am not sure I understand that...

Suppose you are offered to play the following game. We flip a coin. If it's heads, you lose your bet. If it's tails, you win twice the amount of the bet. You can play as many times as you want.

The house sets the rule: you may not bet more than 95% of your account. Let's call it the margin rule. Now, the question is, how much should you bet on each flip of the coin? Your answer would determine your leverage.

 

[Pekelo]

I am not sure I understand that... Are you suggesting that the expected volatility of the position/portfolio should not matter in the calculation of "leverage"?

For the broker, it certainly does matter. Generally, the bigger the volatility, the higher the margin. That is why occasionally they increase the margin when volatile times seem to be coming. The broker wants to stay in business even when the traders unwisely over leverage.

For traders it is also wise to scale back when the instrument gets too volatile. With less contracts they can still make (or lose) the same amount.

Margin decides the highest ability to leverage (as Nonlinear said, the max leverage) but true leverage is decided by my formula. If you replace Ctr/AccSize with the Margin, you get the max. leverage possible in your account:

Max. Lev=Notional value/Margin

But again, that is not the actual leverage...

 

[Pekelo]

I can trade 2 ES contracts or, alternatively, I can trade 1 front Eurodollar contract (currently GEU7). If I apply your formula, I would perforce conclude that my account is roughly equally leveraged in those two cases. Is my understanding correct?

Could be but without actually running the numbers I can't tell. You see, if your account is let's say 10K, and ES margin is $4600, you are already maxed out on ES. Now if the Eurodollar margin is $5100, you can only trade 1 contract, but your leverage is still far less than using 2 ES.