• Protect a long equity position against price volatility or short-term downward movements
• Use futures as an inexpensive alternative to purchase a stock or ETF, and then take delivery of the underlying instrument to augment your portfolio
• Trade long/short pairs
• Use single stock futures as a cost-effective hedge for stock options positions
• Continue using the analytic approaches you currently employ for investment decisions in stocks or futures (such as technical analysis, chart-based strategies and fundamental analysis)

Some of the specific uses of security futures may include:

• Long or short directional trades: Security futures provide the advantage of capital efficiency for taking long or short positions in specific securities

• Index hedging: The growth of broad-based index investments in the S&P 500 and other benchmarks has experienced tremendous growth as a strategy to reduce the risk of under-performing the market. SSFs provide a means to remove a stock from an index investment by shorting the undesired security using a futures contract.

• "Portable alpha" trading: Single stock futures and ETF futures will expand opportunities for "portable alpha" strategies that are used by some institutional investors. In this strategy, a money manager hedges out some or all of the fund's exposure to a less desirable asset class or market sector by shorting single stock futures in that asset class or sector. The sponsor or manager then buys futures contracts in a more desirable asset class or market sector

• Strip hedging.

Hedging Positions

Substitution and Hedging in Individual Accounts

• Basic hedging: After large price gains, an investor may anticipate that a stock will trade sideways for a time. Rather than selling the position, the investor could hedge by selling single stock futures. This strategy protects against price depreciation, while preserving ownership rights of the underlying position

• Fine-tune market exposure: Single stock futures could be used to invest in equities that might have more favorable short-term upside potential than an investor's current holdings. Investors may fine-tune their market exposure using security futures without changing the composition of their cash equity portfolio

• Hedge 401(k) positions in company stock until the next selling period: Covenants in benefit plans sometimes prevent the selling of equity holdings except during prescribed periods. Individuals can use SSFs to hedge their exposure to company stock until the next selling period

• Hedging a diversified portfolio: Investors can increase or decrease their level of exposure to the overall market with futures contracts on an ETF that tracks a broad-based index such as the DJIA or S&P 500. A short ETF futures position may thereby provide a broad and cost-effective hedge against the impact of market movements on a diversified portfolio
  

Volatility Hedging

Anticipated and unanticipated corporate events such as earnings announcements, FDA rulings, mergers and acquisitions, and regulatory actions can trigger volatility. Suppose an institution is long a technology index futures contract and one of the companies in that index is scheduled to release its earnings after the close. That company's price volatility may increase after the release. Rather than selling the index and relinquishing the potential benefits from favorable price movements, a more cost-effective alternative is to sell the SSF on that company's stock in the amount it is represented in the index investment. This strategy hedges the expected volatility in the index in the near-term.

Diversification

Diversification is a cornerstone of modern portfolio theory. Successful diversification should in theory not only enhance returns, but also smooth their expected path. This is the objective of most investors who construct a sophisticated portfolio. The efficiency of security futures facilitates several diversification strategies:

Dynamic diversification: Using MicroSector futures it is possible to efficiently execute a technical approach that buys the highest momentum sectors and sells the lowest. The ease of trading futures suggests that this strategy could be implemented quickly when there is sudden sector rotation.

Pairs trading, value and relative strength investing: In pairs trading, one firm within an industry is bought and a competitor is simultaneously sold short. This provides an investor with exposure to the relative performance of the two companies with limited exposure to broader market and sector performance.

More broadly, relative strength investing refers to taking contrary positions in under-performing and over-performing instruments. Typical matches may include stocks vs. their peers and stocks vs. a broad market. This type of strategy can be efficiently implemented using security futures.

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