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An Introduction To Futures Spreads


What are Futures Spreads?

Benefits of trading Futures Spreads.

Analyzing & Trading Futures Spreads.

Futures Spreads:

Trading Futures spreads is the best way to gain exposure to the underlying through futures while reducing margin requirements and risk yet increasing leverage, and protecting your trading positions from tail events and trading noise (algo's taking stops).

There are 2 types of spreads in the world of Futures trading:

Timespreads (Calendar Spreads): as the name implies are a calendar spread implied from the difference of the front month contract vs the back month contract. Eg if it's Dec 2016, the front month contract in Crude Oil is Feb2017, you can pick any back month contract to compare the front month with(Feb17 vs Mar17, or Feb17 vs Apr17, or Feb17 vs Dec17 etc….). The spread moves in tandem with Crude Oil futures, while providing a massive reduction in margin (upto 95% reduction), thus a trader is better able to position in a volatile market, or increase leverage in a trending market to gain exposure to the underlying.

Relative Value Spreads(Pairs): spreads are as simple as trading pairs, so X vs Y, or S&P500 vs Dow Jones, or Gasoline vs Crude Oil, or German 10Yr vs Us 10Yr etc… Relative value is a great way to play fundamentals of X vs Y, in a similar way to calendar spreads with more emphasis on XvsY since both underlying items are different.

Benefits of Futures Spreads

Margin Reduction: upto 95% reduction in some cases
Risk Reduction: upto 95% in some cases
Neutral to parallel shifts in the curve: reduced exposure to tail events causing massive shift in prices
Seasonality more pronounced: best way to gain exposure to seasonal patterns especially in energy
Better exposure to underlying fundamentals: pungent way to play fundamentals
Carry: can be either positive or negative
Better Ability to position over time: can average or pyramid better depending on a volatile or trending market
Better Trend Following: great way to pyramid up a trade with much less volatility
Where the Pro's trade: Almost all professional/Institutional traders position in spreads and almost never in flat price.
Ample Liquidity: Liquidty is abundant for a retail investor along the 1 st 12mths in most markets(upto 5yrs in some markets).
Technical Analysis: Traditional technical analysis works great in all types of spreads without the noise of algo's taking stops

Analyzing & Trading Futures Spreads:

I'll start by showing you a basic ticker chart of Crude Oil Futures.

You can build a timespread from picking any two contracts(the near one will always be the 1 st, and the far will be the 2nd ).

This is implying March is 77cents lower than April, thus if you go long this spread you are buying +Mar17 and selling -Apr17. If you believe Crude Oil will rally, the front will almost always rally faster than the back and there are a few fundamental reasons for that, since crude oil futures are deliverable there is the ability of physical traders to arbitrage the price difference between two delivery months, now if crude oil is about to rally(the spread is low enough), they buy the front take delivery store for 30days and deliver in April earning this 77cents(minus all the costs associated with taking delivery storing, and associated interest costs).

For the average trader who doesn't have the ability to attempt physical arbitrage, will be trading this spread to play a bull move in crude oil futures in a margin/risk reduced manner.


Margin reduction from a crude oil futures contract to a 1mth timespread in the example is about 95% lower overnight margin from the required overnight margin of just owning a crude oil futures contract.


Below are two charts, one is the seasonal chart of a March Crude Oil Futures Contract

The other is a chart of the March - April spread of Crude Oil Futures.

The chart clearly shows October-November being a bearish period for Crude Oil, but the futures contract is everywhere, versus the spread is a straight line down with little volatility.


Below is the same spread CLH7-CLJ7(Mar17-Apr17), in a 12hour 90day time frame using basic technical(MACD, and Moving averages), as you can see the spread is trending quite strongly, and generating great trades, using the same seasonality as portrayed by the seasonal chart above. (The spread has slowed its fall due to the recent OPEC cuts, but if fundamentals, technicals, seasonality, and timespreads are leading indicators, then Crude Oil should retrace lower over the next few weeks….)


This was a basic introduction to Futures timespreads, with a more detailed analysis of the major Energy, and interest rate markets to be added on a regular basis.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.