Introduction

This document is designed to help you understand margins and the various types of orders and how to place them. Should you have any questions about order placement or indeed any aspect of trading, please contact your Account Executive on: +44 (0)20 7283 8333

1. Margins - A Basic Introduction
2. Futures Orders
3. Order Details
4. Order Definitions
5. Other Order Instructions

Margins - A Basic Introduction

Initial margin is the amount of money required to open a derivatives position, whether in futures, forex or CFDs. It is in effect a security deposit to ensure that traders have sufficient funds to meet any potential loss from a trade. When a position is closed out or settled money deposited by way of margin is returned, plus or minus any resulting profit or loss.

If a position involves an exchange-traded product, the amount or percentage of initial margin is set by the exchange concerned. However brokerage firms often require a larger amount of margin than that set by the exchange. In times of market volatility margin requirements can change quickly.

If a position is making a loss and the value of the initial margin is being eroded, the broker will make a margin call in order to restore the amount of initial margin available. Often referred to as “variation margin”, margin called for this reason is usually done on a daily basis, however, in times of high volatility a broker can make a margin call or calls intra-day.

Calls for margin are usually expected to be paid and received on the same day. If not, the broker has the right to close sufficient positions to meet the amount called by way of margin. After the position is closed-out the client is liable for any resulting deficit in the client’s account.

Some US Exchanges also use the term “maintenance margin”, which in effect defines by how much the value of the initial margin can reduce before a margin call is made. However, most non-US brokers only use the term “initial margin” and “variation margin”.

Consider the example below:

A gold futures contract of 100 ounces with an initial margin of $3000:

Day 1
A client lodges $3000 margin and buys a June gold future at a price of $920 per ounce. (every $1 movement in the price of gold generates a profit or loss of $100)

Gold closes the day at $915.00, which means the client is losing $500.

Day 2.
The broker makes a margin call for $500 and expects to receive funds on the same day.

Three scenarios:

1. The client pays his margin call and on day 2 gold closes at 918. In this case the client now has $300 surplus in his account
2. The client does not pay his margin call and on day 3 the broker sells out the contract at 910. The client is debited $1000 and now has a balance of $2000
3. The client does not pay his margin call but promises to meet the call on day 3. The broker uses his discretion to give the client an extra day to pay. On day 4 the price drops to $880 and no margin has been received. The broker closes out the trade creating a loss of $4000. The client is now left with a $1000 deficit in his account (i.e. initial margin $3000 less loss of $4000) for which he is legally liable to pay.

In addition to the above information, you are advised to carefully read the risk disclosure statement and associated documents issued to you regarding your account. Should you not understand any aspect of the trading you intend to undertake or the financial consequences of doing so you should consult with an independent financial adviser.

The Process of Placing Orders

Before considering specific types of orders, it is valuable to understand the general procedure:

FUTURES ORDERS

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1. Telephone the trading desk direct. Order Specialists are there to deal with your call. Your very first step will be to identify yourself using your account number and name.
2. Give your order. We would suggest that you have the order written down on an ‘Order Placement Sheet', which you can download. This will help ensure that you will be more confident in what you are saying and be able to provide all the correct information in the right order. The Order Specialist will then repeat your order back and ask you if this is correct. Although all of our Order Specialists are trained to deal with novice and expert customers there is the chance that they may speak more quickly than you are prepared for. If you are unsure that the details are correct, ask for it to be repeated, more slowly. Only when you are satisfied that the order has been repeated correctly, should you say it is correct.
3. The order is then transmitted to either the floor or an electronic exchange. If it is a market order (i.e. you want to trade NOW), then under normal circumstances, you may hold whilst the Order Specialist places the order
4. You receive the fill price (the best price we have managed to obtain in the market) from your Order Specialist. If however, it is another kind of order (see order definitions) then the conversation finishes after you have confirmed the order with the Order Specialist.
5. Your record. It is very important to make a note of all your orders, recording the time, date, and the type of order placed. You should check all fills given to you against your own record and the written confirmation sent to you the next day.

The following outlines the order process in more detail:

ORDER DETAILS

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Let us say that you want to purchase for $22.00 per barrel, 5 contracts of June NYMEX Crude Oil today. The current price stands at $22.35 per barrel which is higher than you are prepared to pay.

This is how the order should be given, divided into its component parts:

1. State your name and account number.

   Do not assume that the Order Specialist knows who you are.

2. State whether this order is a buy or sell.

   The Order Specialist’s order ticket is divided in two halves; one side is for buy orders and one side is for sell orders. Until the Order Specialist knows what side to write your instruction on, he cannot take your order. MF Global Direct recommends that you repeat this part of the order to ensure complete agreement on this point by both you.

3. State the quantity.
4. State the delivery month.

   Many contracts including Crude Oil are deliverable this year and also next year as well. Therefore, it is good trading practice to state the month and also the year of the contract that you wish to trade. MF Global Direct recommend that because some months can sound similar on the telephone, such as September and December, you elaborate by saying September Labour Day and December Christmas to avoid any confusion.

5. State the exchange and contract to be traded.

   Although it can be obvious in many cases, there are many similar or identical contracts that trade on at least two different exchanges. Once again, it is good trading practice to specify the exchange as well as the contract.

6. State the price.

   Specify the price at which you want your order to be activated. MF Global Direct recommend that for certain numbers that sound similar to others, you clarify these: fifteen would be stated as "fifteen, that is one five" and fifty would be stated as "fifty, that is five zero".

7. Order action.

Most orders are either:

1. market orders;
2. price orders; or
3. a combination of the two

It is very important that you state the type of order to ensure correct execution. In the Crude Oil order example above, the client stipulated a "Limit Order". In the next section, we describe the various applications for different restrictions you may wish to place on orders.

8. State type of order.

Unless stated differently most brokerage firms will assume the order will remain valid for the day only. However, it is good practice to state whether it is a Day Order or a Good Till Cancelled Order ("GTC"). (Also known as an Open Order) Let us consider the differences.

Day Order. This is good only for the trading session during which you placed it. If you place an order between two of the sessions, the order will remain good for the next session only, unless you specify otherwise.

Good Till Cancelled Order ( "GTC" or Open order). This remains a working order until:

1. it is filled;
2. it is cancelled by you; or,
3. the contract expires.

Many GTC orders only apply during open outcry trading and are not worked during electronic sessions.

Option Orders

The procedure for the placement of "Option Orders" is slightly different to a futures order.

For example, consider buying "Call Options" with a "Strike Price" of $20.00 on the June ’2001 NYMEX Crude Oil futures contract with a "Premium Value" of $3.20:

The new points are outlined below:

(2) State that it is an option order.

This is now the first part of the instruction after you have identified yourself.

It signals your intentions to place an "Option Order".

(6) State the strike price you wish to trade.

If the option is exercised, the "Strike Price" identifies the price at which the underlying instrument will be assigned. Even if a trader never intends to exercise his option, it must have a " Strike Price."

(8) State whether the option is call or put.

(9) State whether this order is to open or to close.

When trading "Options" it is important to state whether you are opening a new position or closing an existing position

ORDER DEFINITIONS

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Market Order

This is the most straightforward order there is. You do not specify a price but instruct the Order Specialist to get the best available price now. If the trader is not prepared to wait for Crude Oil to fall to $22.00/barrel and wants to get in immediately, the order would change to:

John Miller, Acc 123ABC, Buy, 5 June @2001 NYMEX Crude Oil, at Market.

Note: Some electronic exchanges do not recognise market orders. To overcome this, many electronic trading systems simulate a market order by placing a limit order well above or below the last trade. In normal market conditions this practise works well, however in fast market conditions some market orders can fail.

Market on Close ("MOC")

An MOC order is an instruction to fill the order, at market, but only in the closing range (the range is determined by the individual exchanges).

Market on Open

It is an order that is to be filled in the official exchange opening range. If any part of the order cannot be filled in this period, it will automatically be cancelled.

Limit Order

This is an order that you will use if you want to be filled at a certain price or better. If it is a buy limit, the price of the order is given at or below the current market price. If it is a sell limit, the price of the order is given at or above the current market price. Generally you are guaranteed a fill if the market trades through your price. However, if the market just trades at your price, you are not guaranteed a fill because there may not be enough trades occurring at your price to ensure that your particular order will be traded.

Sometimes, you may wish to place a limit order when the market is trading at or through your limit price. This order will be flagged ‘Or Better’. The Order Specialist will then be able to inform the floor broker of your intention.

Fill or Kill ("FOK")

An FOK order is an instruction to the broker to immediately execute your order at a specific price or cancel it if it is "unable" to be filled. The broker on receipt of your order will immediately "Bid" (if it is a buy order) or "Offer" (if it is a sell order) your price at least three times. If a trade takes place, you will be notified immediately of your fill price. If however no trade takes place, the order will automatically be cancelled, or "killed". The specified price must be close enough to the current market price to make its execution a reasonable possibility. In our example, the market is trading at $22.35 and our specified price is $22.00. This, therefore, would not be a realistic alternative to our normal limit order.

Market if Touched ("MIT")

An MIT order becomes a "Market Order" if and when the market hits a specified price . Just like a "Limit Order", a buy "MIT" is placed below the current market price and a sell "MIT" is placed above the current market price. However, unlike a "Limit Order" the market does not need to trade through your price to guarantee a fill. Additionally, there are no limitations placed on the floor broker as to what price the order will be filled. It may be at your price, better, or perhaps worse – it has become a "Market Order."

Stop Order

This is an order that becomes a "Market Order" when trading occurs at or through your specified price. This differs from an "MIT" because a buy "Stop" is placed above the current price and is triggered when the market is bid at or above your "Stop" price. A sell "Stop" is placed below the current market price and is activated when the market is offered at or below your "Stop" price.

Many traders refer to a "Stop Order" as a Stop Loss, in recognition of its function of closing a trade if the market price moves in the opposite direction to the one a trader has anticipated. However, the "Stop Order" can also be used to protect the profit of an existing trade or to open a new position to buy "on strength" and sell "on weakness."

Consider that the market price of Crude Oil has fallen to $21.95 and our trader is now in the market. The traders first concern will be to protect himself against a further significant fall in the price. He will place a "Stop Order" using it as a Stop Loss:

John Miller, Acc 123ABC, Sell, 5 June ’2001, NYMEX Crude Oil, at $21.50 Stop. GTC.

At a later point in time, if the market moves to $22.50, the trader might want to protect the profit that he has already accrued and therefore, places a "Stop Order" to protect most of the profit:

John Miller Acc 123ABC, Sell, 5, June ’2001, NYMEX Crude Oil, at $22.40 Stop. GTC.

Note: It is at this point that the trader must remember to cancel his previous order at $21.50 Stop. GTC.

It is also possible to use a stop order to open a new position. When we first looked at the Crude Oil example market the price was at $22.35/barrel. If the trader allows the price to fall before buying his five contracts he is buying a weak market. If, instead, he is looking for market strength in the anticipated trading direction, he may well consider using a "Stop Order" to enter "at market" if the price moves to or above 22.40.

John Miller Acc 123ABC, Buy, 5 June ’2001, NYMEX Crude Oil, at $22.40 Stop. Day Order.

Stop Limit Order

This is a variation of a normal "Stop Order" and it instructs the filling broker that on a "stop" being elected, to fill the order at the price or better. If he is unable to do this immediately the order will become a normal "Limit Order."

Stop Close Only Order ("SCO")

An SCO is a "Stop Order" that can only be elected and filled in the closing range of the market and will only be elected if the market has traded at or through the price specified in the "Stop Close Only Order".

OTHER ORDER INSTRUCTIONS

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Spread Orders

This is an instruction to buy and sell the same or related commodities in an attempt to take advantage of the price differential.

Spread orders are entered using a "Market Order" or at a specified "Premium" instead of a price. A "Premium" is the difference in the two prices of the two contracts with which a trader wants to become involved. When giving an order, you must always state that it is a "Spread Order". When placing this order, the first part that is given is the "buy side". If the order is not a "Market Order", the "Premium" should be stated on the "higher priced side". The filling broker will treat the "Premium" like a "Limit Order" and almost always the "Premium" is indicated on the higher priced "side" of the "Spread Order".

Let us consider an example using NYMEX Crude Oil. The June contract is currently trading at $22.35/barrel and the August is at $21.45/barrel. The difference between the two contracts is $0.90; that is the "Premium". The trader believes that over a period of time the difference between the two contracts, or "Premium", will reduce in size. Therefore, he will want to sell the higher priced contract and buy at the lower priced contract. However, he believes that the "Premium" may increase slightly before he is able to take advantage of the anticipated decrease. The order that he will give to the Order Specialist is this:

John Miller Acc 123ABC, Spread, Buy, 5, August ’2001, NYMEX Crude, and Sell, 5, June ’2001 NYMEX Crude at a premium of $1.00 or more on the Sell Side day order."

It is important to remember certain features of trading with "Spread Orders". Spreads are traded separately from the regular market and the prices quoted may not be identical in the two markets. It is, therefore, very important to ask for a quotation before entering a "Spread Order" especially if the spread that you are interested in is thinly traded.

Note: We will not accept "Stop Orders" on spreads.

Cancel Replace

This order will be used when a trader wants to change an existing order with respect to the price, action, quantity or duration, or a combination of any of these. With this order a trader cannot change the commodity or the month. The trader informs the Order Specialist what the old order is and that he wants a "Cancel Replace" and then states the new instruction.

The advantage of this order is that it is impossible to be filled on both the old and the new orders. If the trader is too late in placing the "Cancel Replace" and the old order will be filled, the new one will be automatically cancelled and the trader will be notified of the fill. The disadvantage with the order though is the time in which it takes the order to be placed. Therefore, if it unlikely that the old order will be filled and time is of the essence, it may be worth taking a risk by placing the new order and then placing a "Straight Cancel" on the old one.

One Cancels Other ("OCO")

An OCO order consists of two separate "Buy" or "Sell" instructions. It cannot contain a "Buy" and a "Sell". As soon as the filling broker executes one portion of the order the second portion is cancelled. This is a very useful instruction for a trader who wants the option of placing a profit target whilst protecting the position with a stop loss. If we consider that on the original order - Buy 5 June ’2001 NYMEX Crude Oil contracts, we anticipated that the price would rise. If the market rises we want to take the profit and if falls we want to cut our losses. This is an ideal opportunity to use an "OCO". We want to take profit using a limit order if the price rises to $23.00 and to place a stop loss if the price falls to $21.50. Both orders are "to Sell":

John Miller Acc123ABC, OCO, Sell, 5, June ’2001, NYMEX Crude Oil, at $23.00 Limit OCO $21.50 Stop.

Not Held Orders

Often an order specialist will take an order on a "Not Held" basis. This often occurs when the exchange does not recognise a particular order and the order specialist offers to work the order from the desk on a "Not Held" basis. This means that the order specialist is prepared to work the order as long as the trader acknowledges that if the order is missed the order specialist has no liability to provide a fill. In effect a Not Held order means an order is only worked on the basis of best endeavour but no liability is accepted if it is missed.

WARNING

The information contained in this article is from sources generally considered reliable, however, MF Global Direct makes no guarantee, implied or explicit, as to its accuracy or completeness. Types of orders accepted at various exchanges, or on electronic trading systems, are subject to change without notice. The Explanation of trade order types are given as guidance only. It should be noted that definitions might differ from exchange to exchange. MF Global Direct takes no responsibility for failure to complete an order due to a client's misunderstanding or misinterpretation of market definitions.

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