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How Does Liquidity Impact the Futures Markets?

January 25, 2021 by Daniels Trading| Futures 101

Futures market liquidity is an important topic that’s easy to overlook. However, if you’re going to prosper as an active trader, then understanding the concepts of market depth and order flow is critical. Let’s take a closer look at the leading factors that affect futures liquidity.

Deep vs. Thin Markets

In general, liquidity is a measurement of how easy it is to exchange one type of asset for another. As it pertains to the futures markets, liquidity reflects the efficiency by which contracts are bought and sold.

In practice, futures market liquidity is a product of the ongoing dialogue between buyers and sellers. As market participants send orders to the market, the ability for a given contract to change hands quickly at a stable price is impacted. Subsequently, markets come in two basic varieties: deep and thin. Here’s a quick look at each type.

Deep

A deep futures market features heavy participation, consistent order flow, and no shortage of buyers and sellers. These elements promote trade-related efficiency and constant pricing volatility. As a general rule, deep markets are related to assets in the public eye.

Thin

Thin futures markets are those that experience lagging participation and limited order flow. These contracts are a challenge to trade due to choppy price action and wide bid-ask spreads. Slippage is a major concern in thin markets because entering and exiting trades efficiently can be a formidable challenge.

Deep, active markets are target-rich environments for active traders. When a contract is being frequently bought and sold, trade-related efficiencies and periodic volatilities are enhanced. As a result, positive expectation trading opportunities become more common because the negative influences of slippage and sudden volatility are minimized.

Download our free guide, Futures Trading: Technical Analysis for Beginners,  today!

Addressing Futures Market Liquidity

For many active traders, finding liquid markets is job No. 1. Fortunately, this task may be routinely accomplished by simply looking at several indicators:

Traded Volumes

Average traded volumes represent the number of contracts that have changed hands in a market over a given period of time. For instance, the E-mini S&P 500 regularly trades more than 1 million contracts in a given day.

Open Interest

Futures market open interest is the total number of contracts held by market participants at the end of a trading day. From a practical standpoint, the greater the open interest, the greater the forthcoming market liquidity.

Trading Ranges

A contract’s periodic pricing fluctuations can be a signal of market liquidity. If order flow remains heavy, then an intraday, day, or weekly trading range is more likely to become extended. Although this phenomenon can occur in thin markets, it typically develops in those experiencing robust participation.

Large traded volumes, open interest, and extended trading ranges are signs that a market is liquid. Here are a few of the most consistently liquid contracts offered by the Chicago Mercantile Exchange (CME):

Asset Class Liquid Contracts
Agriculture Corn (ZC), Soybeans (ZS), Wheat (ZW, KE)
Metals Gold (GC), Copper (HG)
Energies WTI Crude Oil (CL), Henry Hub Natural Gas (NG)
Equities E-mini S&P 500 (ES), E-mini NASDAQ (NQ)
Currencies Euro FX (6E), Japanese yen FX (6J)

It is important to remember that the futures products with the highest liquidity are known as “front-month contracts.” A front-month contract is one that is close to expiration. When compared to “back-month” or “far-month” contracts, market depth, liquidity, and public interest are typically greater.

For instance, the E-mini S&P 500 is listed for trade quarterly, with the contract months of March, June, September, and December. Accordingly, the nearest month to the present represents the front-month contract and greatest futures market liquidity. This listing will be more liquid than back-month issues, which will likely feature reduced market depth and order flow.

Interested in Becoming a Technical Trader?

If you’re interested in becoming a market technician, a great place to begin your journey is with Daniels Trading’s online trading guide Technical Analysis for Beginners. In it, you’ll find indispensable futures market liquidity basics, as well as tips for reading quotes and contract specifications. Don’t wait―download your complimentary copy today!

Read our guide, Futures Trading: Technical Analysis for Beginners

Filed Under: Futures 101

About Daniels Trading

Daniels Trading is an independent futures brokerage firm located in the heart of Chicago’s financial district. Established by renowned commodity trader Andy Daniels in 1995, Daniels Trading is built on a culture of trust committed to the firm’s mission of Independence, Objectivity and Reliability.

Risk Disclosure

THIS MATERIAL IS CONVEYED AS A SOLICITATION FOR ENTERING INTO A DERIVATIVES TRANSACTION.

THIS MATERIAL HAS BEEN PREPARED BY A DANIELS TRADING BROKER WHO PROVIDES RESEARCH MARKET COMMENTARY AND TRADE RECOMMENDATIONS AS PART OF HIS OR HER SOLICITATION FOR ACCOUNTS AND SOLICITATION FOR TRADES; HOWEVER, DANIELS TRADING DOES NOT MAINTAIN A RESEARCH DEPARTMENT AS DEFINED IN CFTC RULE 1.71. DANIELS TRADING, ITS PRINCIPALS, BROKERS AND EMPLOYEES MAY TRADE IN DERIVATIVES FOR THEIR OWN ACCOUNTS OR FOR THE ACCOUNTS OF OTHERS. DUE TO VARIOUS FACTORS (SUCH AS RISK TOLERANCE, MARGIN REQUIREMENTS, TRADING OBJECTIVES, SHORT TERM VS. LONG TERM STRATEGIES, TECHNICAL VS. FUNDAMENTAL MARKET ANALYSIS, AND OTHER FACTORS) SUCH TRADING MAY RESULT IN THE INITIATION OR LIQUIDATION OF POSITIONS THAT ARE DIFFERENT FROM OR CONTRARY TO THE OPINIONS AND RECOMMENDATIONS CONTAINED THEREIN.

PAST PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE PERFORMANCE. THE RISK OF LOSS IN TRADING FUTURES CONTRACTS OR COMMODITY OPTIONS CAN BE SUBSTANTIAL, AND THEREFORE INVESTORS SHOULD UNDERSTAND THE RISKS INVOLVED IN TAKING LEVERAGED POSITIONS AND MUST ASSUME RESPONSIBILITY FOR THE RISKS ASSOCIATED WITH SUCH INVESTMENTS AND FOR THEIR RESULTS.

TRADE RECOMMENDATIONS AND PROFIT/LOSS CALCULATIONS MAY NOT INCLUDE COMMISSIONS AND FEES. PLEASE CONSULT YOUR BROKER FOR DETAILS BASED ON YOUR TRADING ARRANGEMENT AND COMMISSION SETUP.

YOU SHOULD CAREFULLY CONSIDER WHETHER SUCH TRADING IS SUITABLE FOR YOU IN LIGHT OF YOUR CIRCUMSTANCES AND FINANCIAL RESOURCES. YOU SHOULD READ THE "RISK DISCLOSURE" WEBPAGE ACCESSED AT WWW.DANIELSTRADING.COM AT THE BOTTOM OF THE HOMEPAGE. DANIELS TRADING IS NOT AFFILIATED WITH NOR DOES IT ENDORSE ANY TRADING SYSTEM, NEWSLETTER OR OTHER SIMILAR SERVICE. DANIELS TRADING DOES NOT GUARANTEE OR VERIFY ANY PERFORMANCE CLAIMS MADE BY SUCH SYSTEMS OR SERVICE.

GLOBAL ASSET ADVISORS, LLC (“GAA”) (DBA: DANIELS TRADING, TOP THIRD AG MARKETING AND FUTURES ONLINE) IS AN INTRODUCING BROKER TO GAIN CAPITAL GROUP, LLC (GCG) A FUTURES COMMISSION MERCHANT AND RETAIL FOREIGN EXCHANGE DEALER. GAA AND GCG ARE WHOLLY OWNED SUBSIDIARIES OF STONEX GROUP INC. (NASDAQ:SNEX) THE ULTIMATE PARENT COMPANY.

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Risk Disclosure

THIS MATERIAL IS CONVEYED AS A SOLICITATION FOR ENTERING INTO A DERIVATIVES TRANSACTION.

THIS MATERIAL HAS BEEN PREPARED BY A DANIELS TRADING BROKER WHO PROVIDES RESEARCH MARKET COMMENTARY AND TRADE RECOMMENDATIONS AS PART OF HIS OR HER SOLICITATION FOR ACCOUNTS AND SOLICITATION FOR TRADES; HOWEVER, DANIELS TRADING DOES NOT MAINTAIN A RESEARCH DEPARTMENT AS DEFINED IN CFTC RULE 1.71. DANIELS TRADING, ITS PRINCIPALS, BROKERS AND EMPLOYEES MAY TRADE IN DERIVATIVES FOR THEIR OWN ACCOUNTS OR FOR THE ACCOUNTS OF OTHERS. DUE TO VARIOUS FACTORS (SUCH AS RISK TOLERANCE, MARGIN REQUIREMENTS, TRADING OBJECTIVES, SHORT TERM VS. LONG TERM STRATEGIES, TECHNICAL VS. FUNDAMENTAL MARKET ANALYSIS, AND OTHER FACTORS) SUCH TRADING MAY RESULT IN THE INITIATION OR LIQUIDATION OF POSITIONS THAT ARE DIFFERENT FROM OR CONTRARY TO THE OPINIONS AND RECOMMENDATIONS CONTAINED THEREIN.

PAST PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE PERFORMANCE. THE RISK OF LOSS IN TRADING FUTURES CONTRACTS OR COMMODITY OPTIONS CAN BE SUBSTANTIAL, AND THEREFORE INVESTORS SHOULD UNDERSTAND THE RISKS INVOLVED IN TAKING LEVERAGED POSITIONS AND MUST ASSUME RESPONSIBILITY FOR THE RISKS ASSOCIATED WITH SUCH INVESTMENTS AND FOR THEIR RESULTS.

TRADE RECOMMENDATIONS AND PROFIT/LOSS CALCULATIONS MAY NOT INCLUDE COMMISSIONS AND FEES. PLEASE CONSULT YOUR BROKER FOR DETAILS BASED ON YOUR TRADING ARRANGEMENT AND COMMISSION SETUP.

YOU SHOULD CAREFULLY CONSIDER WHETHER SUCH TRADING IS SUITABLE FOR YOU IN LIGHT OF YOUR CIRCUMSTANCES AND FINANCIAL RESOURCES. YOU SHOULD READ THE "RISK DISCLOSURE" WEBPAGE ACCESSED AT WWW.DANIELSTRADING.COM AT THE BOTTOM OF THE HOMEPAGE. DANIELS TRADING IS NOT AFFILIATED WITH NOR DOES IT ENDORSE ANY TRADING SYSTEM, NEWSLETTER OR OTHER SIMILAR SERVICE. DANIELS TRADING DOES NOT GUARANTEE OR VERIFY ANY PERFORMANCE CLAIMS MADE BY SUCH SYSTEMS OR SERVICE.

GLOBAL ASSET ADVISORS, LLC (“GAA”) (DBA: DANIELS TRADING, TOP THIRD AG MARKETING AND FUTURES ONLINE) IS AN INTRODUCING BROKER TO GAIN CAPITAL GROUP, LLC (GCG) A FUTURES COMMISSION MERCHANT AND RETAIL FOREIGN EXCHANGE DEALER. GAA AND GCG ARE WHOLLY OWNED SUBSIDIARIES OF STONEX GROUP INC. (NASDAQ:SNEX) THE ULTIMATE PARENT COMPANY.

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