Using Nadex Spreads As An Alternative To Futures

By: FairValue Trader

With the ever changing personality of the financial markets while fighting HFT’s, lower volume, tighter daily ranges along with the vulnerability of volatility, many experienced traders have had to continue their education and preparation while looking at alternative opportunities to capture profit.

With all of these factors it has become increasingly difficult for a trader owning a small account to keep up with programmers and algo’s. When trading small size one must define the entries and exit’s perfectly without any flexibility to scale in, or to take profit and leave an runner position on.

How many times do we find a price, take our position, then the market goes against us 3 handles until we get stopped out only for the market to then move our way once we have already been stopped, often leaving us frustrated.

While some traders have the account size to add once or more to get a better entry there are many traders who are trading with a small account and cannot afford the potential risks of cost averaging even with 2 or 3 contracts, especially with algos chasing stops.

As a trading veteran of more than 10 years, I have recently been working with binary options.

While a internet search may return mixed results for binary option brokers, the Nadex exchange offers a unique opportunity as they are regulated in the U.S. and offer an extensive amount of market opportunities with options on several instruments, with strikes expiring hourly, daily and weekly.

Nadex also offers what are called bull spreads. These bull spreads have a floor and ceiling to them meaning that risk and profit are both limited.

There are multiple ways and strategies available to capitalize from these bulls spreads but one way is by taking directional trade on the market as an alternative to trading a future outright.

While Nadex provides these bull spreads on several underlying, today I will be using the Nadex US500 bull spreads offered based on the S&P 500 futures and comparing them with trading an outright futures contract.

The Nadex US500 bull spreads trade tick increments of 1/10th a handle similar to the big S&P 500 contract and potentially offers a more precise entry than the mini S&P futures which trades at a tick size of 1/4thhandle.

Also, the bid/ask spread for the Nadex US500 bull spread is 4/10th a handle, much like the big S&P futures contract that institutions trade in the pit everyday and not far from the 1/4th handle spread that the e-mini contract trades at.

However with the Nadex US500 bull spreads, each tick is worth $1 meaning that each handle represents a $10 move in the value of that spread making it roughly the equivalent of 1/5th value of an E-mini S&P 500 futures contract.

The advantage is that a trader with a small account can trade 5 of the Nadex spreads for the same per handle value as a single lot trader of the E-mini contract. This opens many doors of potential for the small trader including the ability to add to entries to get a better average price as well as the option to scale out of profit.

A further advantage of the Nadex spread is that there is no margin risk, this is contrary to trading a futures contract which is entirely on margin. When trading on margin, especially with a smaller account the risk are greater, and potentially a flash crash could wipe out a small account and leave the account holder owing margin calls. With Nadex all positions are covered, meaning that one cannot lose more than the initial risk they put up for the trade.

Also with Nadex spreads, one get’s just as much bang for their buck but with less risk. The amount of capital one needs to trade a single Nadex US500 bull spreads varies between $100-$500 depending on which spread is chosen.

Many futures brokers requires 20-25% of overnight margin to establish a day trade position while other brokers offer no intraday margin or offer it only for larger accounts.

I am usually able use to $,1000 of my Nadex account balance when I trade 5 Nadex US500 bull spreads, which is a little bit less than the amount of margin my futures broker requires to establish an intraday position for a single e-mini S&P 500 futures contract.

Lastly, the price of these spreads are based on the S&P 500 futures contracts and moves as frequently as the underlying index, and Nadex has multiple market makers offering liquidity in these spreads. Personally I have found these bull spreads to be quite liquid and have never had any problem getting filled on an entry or exit.

These are just a few example of the benefits of Nadex bull spreads but there are many other advantages to using these instruments and other options offered by the exchange. Nadex also offers a free demo account so one can test drive these options and strategies without any risk.