CME Micro Futures Contracts – Upsides, Downsides & Trade Entry Signals

Published on: May 22, 2019

Unless you’ve had your head buried in the sand the past few weeks, you’ll know the CME recently launched 4 new Micro Futures markets for traders. In this article we take a look at these contracts, scenarios where they might be useful and scenarios where I feel they are best avoided. We’ll also look at how the Micro Futures are trading and where to look for trade entry signals.

Why?

The first question you have to consider is “Why did the CME create these contracts?”. The simple answer to that is “To make more money”. The CME is a business and they launch new contracts to make trading fees from the traders. Some of these contracts are a success – like the eMini S&P500. Some not so successful – like the Single Stock Futures contracts.

That answers the “Why did the CME do it?” but not “Why did they think people would be interested?”. After all, you can only sell something that people want to buy. In the case of the Micro Futures, it does look like it fills a real need that has been around for a long time.

The Upside Down Markets

For a long time, the regulations of the main 3 market types have really stood in the way of smaller speculative traders. If we consider the 3 major markets that people day-trade:

Forex – An unregulated market where in many cases, you place trades with the broker and the broker takes the other side of your trade. In other words, the broker makes money when the trader loses money.  There is no centralized exchange and brokers can quote any price they like. They don’t stray too far from bank prices because to do so would attract arbitrage traders.  You can trade for pennies with micro lots. There’s centralized Time & Sales or Order Book. So it’s the least ‘fair’/transparent market but you are allowed to trade with very small size.  In other words – you could trade real money but risk a dollar or less per trade.

Stocks – A regulated market but with many exchanges, some of which are dark pools. They are more transparent that Forex but less transparent than Futures. The disparate exchanges made for some interesting arb opportunities which spawned the use of dark pools that are supposedly immune to certain HFT tactics. These dark pools are also invisible to the retail trader. Once again, you can trade with microscopic risk. You can trade just a single share. Again, that can have you trading real money but risking a dollar or less per trade. Of course, most traders can’t do this because there’s also a Pattern Day Trader rule that says you need a $25,000 account if you want to day trade. So the ability to risk a small amount is there but only if you have a large amount to put in the account.

Futues – Another highly regulated market but with a single exchange. That makes it the ‘fairest’ as everyone sees the same Order Book, the same Time & Sales. There’s no dark pools, there’s no latency arbitrage. You can open an account to day trade at some places for just $500. BUT – you cannot risk a dollar in a trade. It’s $5 per price increment on Nasdaq/DOW futures, $10 on Crude and $12.50 on ES. On FX, you could risk a few dollars on the entire days range but on Futures, it would be many hundreds. It’s the most transparent, the fairest, the entry fee is low BUT the risk is high for beginners.

The bottom line is that regulations put in place to protect traders end up keeping most traders out of stocks, where they could take lower risk and push them to Futures, where minimum risk is higher.

That’s where the Micro Futures come in. You get the fairness and visibility of futures, the ability to trade a small account and the ability to risk a small amount per trade. On the eMini S&P500 – it’s $50 a point risk but on the eMirco S&P500 it’s just $5 a point to risk. 1/10th of the risk.

But… Commissions

The problem with Micro Futures, many people will tell you – is that commissions are a much higher percentage of the tick value. For those of you saying “huh?” to this… it’s simple. The eMini S&P500 will reward you with $12.50 for each 1 tick move your way in that market. Costs for retail traders to get in and out (round turn) in that market are around $2.50-$6.00, depending on the deal you struck with your broker & the size you trade. Let’s average that at $4.00. The Micro Futures will reward you with $1.25 on per each 1 tick move your way in the market but fees are not yet scaled down to the same extent. So commissions become a larger relative burden.

To which I say “So what?” – it’s true but it’s a complete red-herring. There is a place for the Micro Futures and it’s not the same place where people worry about commissions.

A Long Time Ago

I know this because when I started trading Futures, I was lucky enough to have the $25k to trade stocks, I would trade the ETF SPY (a stock equivalent of the S&P500 futures). I would buy 100 and then sell off in 20’s. I was trading with Interactive Brokers and their commissions were $1 per 100 shares or less. So when I got long 100 shares – I paid a dollar and when I sold off in 20’s  I paid another $1 commissions per 20 shares. So I’d do 1 buy and 5 sells and my commissions would be $6 in total. That’s much higher than a simple buy 100, sell 100 which would result in $2 commissions.

But so what? I was learning to trade. I wanted to learn with real money, I knew the commissions would be relatively large – but I was hardly losing my shirt on commissions. I just basically forgot about the commissions during that period. I just focused on the profits from the trading knowing that as I scaled up, commissions would be less of a factor.

For analysis, I’d watch the eMini S&P500 but trade the SPY. I grew that trading a little at a time until I was risking the equivalent of 3 contracts worth of eMini S&P500s at which point, I moved to the Futures. It wasn’t a dramatic cut-off between SIM and Live. It was a gradual move.

It’s easy to figure out if commissions will kill you or not in the future. Without hitting the ball out of the park on most trades, with moderate targets of 2-3 points on the S&P, the ability to kill a trade that goes against you and the ability to hold onto the occasional runner, you should find that commissions aren’t going to kill you anyway. 

Benefit 1 – Novice Traders, Real Money

If you are making a good profit, there’s no reason I can see to scale down to Micro Futures. On the other hand, if you are a beginner, it’s a great way to start interacting with real-money trades. It doesn’t mean you can be a sloppy trader or just scale into losers ’till they come back onside – both will blow up your account, even trading Micro Futures. But – just like I was doing 15 or so years ago on SPY, it allows you to play with small risk. And you know what – just forget the commissions for now. Psychologically, it’s a big switch to go from SIM to a Live account and the ability to start small and grow is a real benefit for anyone that wants to trade their own capital.

Benefit 2 – Scaling

The micros also allow you to play with more than 1 lot. To many people, losing $50 in 20 seconds is painful, but that’s the norm on the eMini S&P with just 1 contract. To then compound that by trading 5 contracts, well it suddenly looks quite expensive. $500-$750 offside in a minute? Absolutely normal on the eMini contract. We all have our pain points but to most people, going from happy and break even to a live trade with a $500, then $600, then $750 loss – it’s a lot to take in. It brings in the fear factor, which brings in irrational behavior. Like not exiting because you don’t want to take the loss, then 1 minute later it’s a $1,500 loss.

On the Micro Futures, you could trade 5 contracts and still risk less than 50% of a single eMini contract but now you have flexibility to scale out. Or scale in. Or scale in and out – working a position as it moves your way. Again – this is heavy on the commissions side but I think you just have to worry about that later. It allows you to play a different game, a more professional game than just “all in, all out”. Of course if you are scalping for 1 tick, this doesn’t matter but most are not doing that.

Trader Trial Companies

There’s a number of companies that offer trial accounts (for money) which result in a funded account if you meet certain criteria on the trial account. To me, it’s less clear how the Micro Futures fit into this picture. If you want to get funded, to trade their money – why on earth hamstring yourself by earning such low rewards?  Why tell that company “I want to trade for you but I’m scared to trade size”? The purpose of trading other people’s money is that you remove your risk but also that you get to trade bigger size than you could on your own. All prop firms take a percentage of your trading and you need to make up for that, I just don’t see the upside in trading Micro Futures in that case.

Losers Market?

In a way, you could say that Mirco Futures are for losers, for people that want to risk/lose less.  That might be a harsh way of looking at it but if you reach any level of success, you’d want to graduate away from them as soon as possible, to leverage your success as a trader. I think it’s a great proving ground for traders, a perfect alternative for Forex Traders and a good value proposition from the CME.

Where to get your signals

So how is it trading? So far the volume is about 1/5th of the Mini Contracts. Prices are in sync between the Micro and Mini S&P500 but there’s something about it that feels a little odd. As you can see by the image below, the Market Depth is 100 and above on the Micro S&P500 (the ladder on the left) and a little bit lower on the Mini S&P500 on the right. The actual trading (center columns with pink/blue numbers) is extremely low on the Micro Futures. Even though we see 100 contracts per level, it actually takes just a few contracts trading to move through that level. You can see on the Mini S&P500, there’s a lot more size at each level. So displayed liquidity is high on the Micro Futures but it’s not real. It’s all being pulled. That is normal but it’s the extent of the pulling that is abnormal.

In addition to this, if you consider the mechanism than normally keeps related contracts in line – it’s arbitrage, where people buy 1 market and sell another when a difference occurs. I admit, I’m no quant but I’m struggling to see how that’s being done with just 1 contract trading at many levels on the Micro Futures side. How do you arb 1 contract at $1.25 against the eMini at $12.50? Probably a question for someone smarter than me.

My take on this, is that these markets are being kept in line artificially. If real liquidity is really just 1 contract at each level, then the Micro Futures should be slipping and sliding around a bit more. It looks to me like the CME want the Micro and Mini to be locked (which is best for the beginner traders) and that they have implemented some mechanism to do that. This really doesn’t look like 2 free-standing markets to me – but you decide. Why this is important? Well, if you do trade minis and decide that you want to trade 10, 20 contracts for scaling, then based on real liquidity, you’d get slippage buying 20 lots. I’ve not heard of people getting this but it is one thing to be on the look out for. For now though, you can take your signals by analyzing the eMini contracts order flow, I would not advise using the order flow from the Micro Futures as it’s simply too thin. Whatever that ‘glue’ is that keeps them together, we’ll just have to rely on it being there, even if it’s not clear what it is.

Conclusions

My take on Micro Futures is that if you are already profitable, you don’t need these contracts. They are great for beginners and something that will bring more traders to the futures industry from Forex. It’s a win for the CME for sure.

For more on the sort of techniques you can use to analyze the eMini S&P500 to trade Micro Futures – click here

FREE BONUS: Take a look into the decision-making process of professional traders with this video training series that helps you make smarter trading decisions. (Article continues below)

Order Flow itself is simply information. Just like charts, it can be used in a number of ways, some good and some bad. But let's first break down order flow into it's components so we all agree what we are talking about:

Order Executions/Tape Reading - This aspect is the real flow of orders. It's the information we see in Time & Sales, Footprint Charts, Cumulative Delta. It is looking at market orders, either as they execute or historically. I guess this is the "true order flow". Every trade is a buy and a sell. We look at market orders because we consider them to be more aggressive. When someone trades with a market orders, they are giving up a price to get an instant fill. Limit orders on the other hand just lazily sit there waiting for a market order to hit them. Often these are market makers with no directional conviction. So we see market orders as being more significant.

But we don't use these in isolation.

Volume Profile/Positions - The tape reading part helps us assess various things like momentum, traders getting stuck, balance of trade BUT the volume profile helps us understand where people are positioned and likely to get stopped out. I sometimes call this "Order Flew". It's important to know when trades will be "washed out" - for example - if we have a volume cluster on the S&P500 Futures and the market moves up 100 points and back down to it, it's unlikely short term traders on either side that were positioned there will still be there. But recent, nearby volume helps us assess areas of positions.

Market Depth - The bids and offers, the lazy passive orders waiting to be hit. This is part of the story but in terms of overall importance, I'd put it at around 20% at most. For example - if you return to the high of the day on any market, the offers will be quite large directly above the high. It means nothing at all. It's just a quirk of the market. It does not help you tell if a price will hold. On the other hand, if you see large depth and as we approach it, we see more added to the depth in front of that price, it means others are front running that depth and that is a useful bit of information.

This is the key - it is all just information. Just like price charts are information. When people look at Order Flow, they consider it to be a technique more than a set of information. They look for things like iceberg orders and decide to make a one rule trading system to fade every iceberg, For these people - yes, order flow is overrated because they are trying to ignore everything else going on in the markets and construct a trading system a chimp could execute.

For those looking to improve a decent trading approach, the best thing to focus on in Order Flow is momentum. Once you can read momentum you can:

• Avoid getting into positions when momentum is against you.
• Confirm trades are working after entry when momentum goes your way.
• Exit trades in profit when momentum fades.

That's perhaps the easiest way to use order flow because momentum is easier to read. It's about the market continuing to do what it's already doing. On the other hand, reading a turn in the market with order flow takes a higher level of skill and a little longer to learn.

Order flow can't put lipstick on a pig. It won't help you 'improve' something that doesn't work anyway, which is why whenever someone calls me, the first thing I ask is what they are currently doing and we discuss whether they need a reset or whether it will actually help.

When Jigsaw started back in 2011 - we were one of the first in the space and certainly had the best education. It was always going to attract the underbelly of the trading education/tools world and now we see stuff out there that is so complex but so impressive and futuristic that new traders are drawn to it like moths to a flame.

So here's my advice when looking at Order Flow

• Order Flow can't improve something that doesn't work.
• Order Flow can be used on it's own, without charts to enter and exit the market but you also have to be able to recognize different market states that need different/altered setups. There is nothing magical about this.
• Don't start jumping at shadows and take 50 trades an hour in your first week looking at Order Flow, be selective. It can be exciting to see cause and effect play out in front of you for the first time but don't overtrade.
• Do drills to learn how to read it before you trade it.
• Markets can only go up and down. Don't overcomplicate it. If you have too many Order Flow tools on your screen - you will not be able to make consistent decisions. Less is more.
• Take time to choose a market with a pace you like. Interest rates might send you to sleep, the DAX might give you a heart attack.

It is hard to see how a set of information could be overrated. It is true that some methods of presenting this information are better than others. It is also true that some people simply get on better with different tools (e.g. Footprint vs DOM).

There's a middle ground between complexity and simplicity that will leave you making consistent decisions where you improve over time. For those people, Order Flow will be way underrated because they will be the one's getting the most out of it.

Those that jump in with both feet on day one and those that have 100 different tools up, for those, it's a painful experience.

Keep it simple and manageable. Start with momentum reading and build from there. You will never look back.