Commission Free Stock Trading Implications Part 2

Trader's Mindset

Nov 28

A relevant question to ask is what will be the implications of commission free stock trading?

First, I think it makes the futures industry look more and more archaic. The futures brokerage industry feels antiquated with more fees, commissions, etc. And, while the CME has made some favorable changes for the retail trader like the e-micros, the exchange fees are actually relatively considerably more expensive on the e-micros.

In my last post, I shared the concept of creating and trading custom portfolios that have desirable properties, i.e strong trending. Commission free trading should make trading custom portfolios easier. That could eventually make index trading less dominant because traders can re-balance their own strategies.

It makes it more profitable to offer liquidity, scalp, or run marginal algos. If the lower costs does increase liquidity, one might imagine it will be more on the long side which could lead to all time lows in the VIX.

What about prop firms? I know there are not many reputable stock prop trading firms left. Frankly, there is no way I can see this as being a positive for them because it only makes the value proposition more questionable.

As far as I can see, there are only 5 real value propositions remaining: learn and train from pros, trade with a community of pros, avoid the PDT rule, leverage, and tail risk capital protection. If you can get with a good firm then the pros may still outweigh the cons provided you are not a scalper. Commission free trading for the scalper can just be huge.

I think there is another big elephant in the room. While it is hard to get quantitative data, among the professionals I have talked too and my own sense of the industry suggest that there are way more people who day trade stocks for a “living wage” as compared to those who trade futures.

A good question to ask is why have we seen more professional stock traders?

  1. Stock traders can start with very little risk per day, develop consistency, and scale up–at a prop firm. Importantly, they can scale down their risk to whatever scale they are trading unlike the fixed gearing of futures. Yes, this is now possible in futures too with the e-micros. However, please do keep in mind the e-micros so far only cover a small fraction of the futures landscape which brings to second point.
  2. It is more possible to combine factors for stock trades, i.e. synthesis trading. I have had some of my greatest success with synthesis trades. It is reasonable to assume that it is more possible to get a distinct day trading edge with individual stocks. And, relevantly, these edges may be less algorithmic in nature. For example, a custom report, analyst upgrade, or downgrade can impact a single stock. You can run algos to pick the strongest or weakest stocks. If you can find a single stock that you understand then you can profit from it.
  3. Individual stocks can have wider ranges then futures. The larger ranges provide for higher R trades. Higher R trades make it easier to profit with marginal win rates.
  4. Correlation. Stock trading should offer the opportunity to trade more non-correlated (or weakly correlated) ideas per day. If you as a day trader can pick 3 or 4 high probability trades in different products, then it is easy to see how risking just $200-$300 dollars per trade that one could make very consistent profits. On the other hand, trading futures then you only get one “maximally non-correlated” trade per day per instrument. While it is true that you can run multiple non-correlated algos on the same instrument, it just makes sense that if you’re placing more then a single trade per day on the same product then anything effecting that product could impact all your algos. For example, let us imagine you have a “fade gap” strategy for the ES and a “short high of day”. Both of these strategies are “mean reverting” in nature. So, a strong trend day that gaps and runs would be more likely to cause losses for both strategies.

Of course, there are some downsides too:

  1. Single stock risk, i.e. tail risk and value at risk. While notional values in futures are higher, the extreme tail risks are likely lower.
  2. Complexity. Having so many choices increases the complexity and importance of stock selection. The big difference in stock volatility and stock pricing is another complexity factor.
  3. Dark pools, transparency, and insider information. I think the risk has to be tilted more to the negative for stocks in regards to transparency.
  4. Consistency and correlation negatives. Okay, I shared the positive that you could get more uncorrelated trades per day but we know most stocks do move together. If you are just trading a technical pattern on the SPY then picking a single instrument could end just end up introducing unneeded risk.
  5. Backtesting and data complexity. While futures have complexities in handling the rolls, there is a single data source. Stocks can trade on different exchanges. There are dividends to deal with and survivor-ship bias.
  6. Overnight risk.
  7. Worse tax treatment.

Is there a way to get the benefits of instrument selection and lower correlation for the futures trader? Yes to a degree- but there’s a catch. The catch is that you have to trade a wider universe of futures. And, it can be very risky to try new futures products given the larger notional values. As well, your universe will still not be as nearly as large as stocks.

Next, you might argue that some futures brokers offer “commission free” trading too. First, these are not truly commission free as you pay upfront fee. But, more importantly I shown in a previous post that the commissions are a small percentage compared to the exchange and data fees.

I think if you are not having success in futures you have to consider changes. In my discretionary futures trades this past year, I traded the same ideas in the options (options on futures) and fact is the options trades did better.

I do believe there is still good opportunity in futures. I think futures, with their simplicity, are ideal for the non-professional with tiny to modest size accounts who wants the opportunity to make an above average return. They are also well-suited toward professional traders trading very large accounts.

Returns trading futures for 50% to 100% returns are well-documented and returns up to 400% have been documented with some frequency.

The question is what about the trader with marginal size who wants to make a real living wage income?

And, honestly, as someone who has dedicated majority of my efforts toward futures trading and primarily ES: it is not fun to look at the data unbiased. But, if I were to create a completely unbiased expert system then given my current information, on what product to trade– it would have to look like this:

Prefer day trading futures if:

  1. You want to get started day trading with bare bones capital and are not sure about whether you want to trade professionally but are committed to giving it a serious go. Go straight to the e-micros.
  2. You want the ultimate in simplicity, have a modest accounts in the 25k range, and want a real opportunity to return 50% to 100% (i.e. if you develop yourself into an elite trader). I think this is a good bring-in for many of the e-minis.
  3. You have a medium to large account (100k-500k), prefer simplicity, and prefer to express your opinion on global macro products with good flexibility. You have a wide range of futures products to trade beyond just the ES.
  4. You want to trade professionally as a Commodity Trading Adviser.
  5. You have the edge in futures.

Prefer day trading stocks if:

  1. You want the highest probability of success of day trading for a living, based on number of professionals who currently and/or have day traded in the past, and you have approximately 20k to 50k of capital.

    Why did I mention 20k instead of 25k? Because you can join an equities prop trading firm with only 5k. However, I calculated $250/month in desk fee (data, software, etc.) and keeping that fee to no more then 15% of your capital yields a min 20k capital. On the other hand, if you don’t join a prop then you will need to maintain 25k in your margin account to day trade, so you would need let’s say realistically 50k to day trade stocks. You would get a 4:1 day trading leverage which honestly is not very good when compared to futures. But, you could trade lower priced and more volatile stocks.
  2. You have the edge in stocks.

What about options? Options, as stated, can be very useful too: however, they do introduce complexities. See my Tactical trading article for a breakdown on when to prefer options over futures.

Do you agree with my analysis? Did I miss something? Are there more people day trading futures for a living then I am aware of? Let me know if you have hard data.

Now, I do think a big part of this is that stock prop trading firms have did better and there are fewer futures props and/or they folded. Because, I’m going to hazard most pros, at least, started at a prop.

If we had e-micros 10 years ago for all the futures products and legit props focused on futures then I think the bias would be weaker: I think there would be more pro futures traders. However, I think there would still be a favorable bias for stock traders.

In my own trading, I am going to continue to focus on futures and develop futures systems. As for the logic as to why, first I am not sure that I personally can get a bigger edge in stocks. I am mostly sure that there is more edge right now in stocks but I am not sure that it is on the day time frame vs. the swing time frame. If it is on the swing time frame then the type of accounts and risks required to take maximal advantage of that will be considerably higher then what is needed in futures.

As well, I am gearing more of my trading toward algorithmic, semi-algorithmic, and graybox trading where I am trying to combine algos with discretion.

However, I can see that creating custom scans or creating custom portfolios or generating synthesis ideas might be easier for me in stocks. So, I am keeping it on the radar, and I have to keep open to the possibility.

About the Author

The author is passionate about markets. He has developed top ranked futures strategies. His core focus is (1) applying machine learning and developing systematic strategies, and (2) solving the toughest problems of discretionary trading by applying quantitative tools, machine learning, and performance discipline. You can contact the author at