I've been having a debate on whether it's riskier trading futures or options. I believe that it's riskier trading options, however my friend thinks that futures trading is riskier. I would like to hear others views on this subject, hopefully to resolve the argument in my favour.
No contest. Futures will always expose you to unlimited risk if the trade goes against you. Options enable you to limit risk to premium paid if you are a straight forward buyer, and if you are a seller, risk can be controlled by the purchase of options further out. With options you can decide on the level of risk that you wish to take - with futures you don't have that flexibility.
But if you're writing call options you leave yourself out for unlimited risk, at least with futures the risk is lessened by how the market moves, i.e. if you're short or long futures, when the position closes you can limit the risk by taking an opposite position on the underlying index.
You can do exactly the same with options by placing a synthetic. For a synthetic long position, you sell a put and buy a call. These can be at the same strike price, or at different strikes ( a split strike synthetic). This gives you the choice of keeping the position open in its entirety, which has the same characteristic as a future, but also allows you to close the short side (the short put) if the position moves in your direction, removing the downside risk whilst keeping the upside exposure with the long call.
Options can be just as risky as futures, but can also be lower risk than owning (or shorting) the underlying security direct. It all depends on the strategy you use.
cala65 - I don't disagree with what you say, and I was just trying to give a constructive reply to a question posed by copper15. If you place a strategy based on what you expect to happen, and the market behaves as anticipated, then you will certainly get more bang for your buck with futures, and at lower cost (narrower spreads, lower dealing costs etc). The problem comes when the market throws an unanticipated wobbly against your position, in which case a properly placed options strategy will at least have limited risk, or a risk where you have time as an additional hedging parameter, giving you more flexibility.
my response is to a theoretical question, it assumes markets are efficient.
my answer assumes that the trader is efficient, and is thus watching the market for movement, in line with expectations or otherwise.
i agree options are potentially less risky however delta works both ways.
the answe is probably unanswerable as a generality.
is the answer to the question the same for a short term trade to one of a longer timeframe?
Options are deceptively dangerous. Best used by experts. The time factor of options is the dangerous part, buy them when there is little wastage or sell them when there is the maximum wastage. Buying options is invariably a mug's game because the time wastage eats away the profits which would have been made by the rise in the share price i.e. the price, at best, stands still or only makes a few pence- not making the risk worth while.
A good play can be holding the future in an up trend, for example,
and then writing an option using the future as a hedge ¡nstead of taking the profit on the future during a consolidation period, taking the profit on the option and letting the future run up again.
Slit - yep, this is just another example of how flexible options can be. The time erosion aspect is certainly something that must be taken into account in deciding upon strategy. High volatility (and therefore high time values) can be great for writers and lousy for buyers. Equally at a time of low volatility (and therefore low time value), a long option can be great value as it limits the downside, and any breakout (or break down in the case of a put) will not only make on the move itself, but also on the increase in implied volatility. Options should be regarded as a volatility play as much as a directional one.