BUSINESSWEEK ONLINE : FEBRUARY 26, 2001 ISSUE
NEWS: ANALYSIS & COMMENTARY Commentary: Caution: Single-Stock Futures Ahead They can barely contain their excitement at Chicago's financial exchanges and the nation's brokerage firms that specialize in futures trading. Later this year, they'll be marketing futures contracts on individual stocks. Already they are gleefully counting the potential buyers. ''There are about 20-21 million people trading equities out there,'' crows Joseph Murphy, chief executive officer of Refco Global Futures, a leading New York-based broker that's planning on pushing the newfangled investments. ''That's a natural audience for this.'' That may be so. But when future contracts on single stocks become available on Dec. 21 for trading by individual investors, most people ought to run, not walk, from them. Promises of speculating on such tony stocks as Microsoft (MSFT), Merck (MRK) and Citigroup (C) by putting as little as 20-25% down--compared with the 50% margin now required to buy stocks on credit--will likely prove to be a treacherous siren's song for most individuals. ''The vast, vast majority of investors should not be in the futures market,'' warns John F. Marshall of the securities firm consultancy Marshall, Tucker & Associates. ''The empirical evidence going back for decades shows that smaller investors come out losers.'' One big problem--and one the marketers are unlikely to highlight--is that single-stock futures are far riskier than stock-index futures or options. Why? For one, individual stocks fluctuate far more sharply than broad-based indexes. For another, the margin requirements on the new futures will make the ramifications of trading them much different than options or regular stocks. With an option, an investor makes a fixed payment for the right to purchase a stock for a specific price at some future date. That's all he can lose. But when he buys a single-stock futures contract, he deposits money into a margin account equaling perhaps just 20-25% of the stock price; the exact amount has yet to be set by regulators. Then he must add to that margin every day if the stock price drops. Problem is, losses could mount fast and unpredictably. A 20% move in, say, Microsoft could wipe an investor out. Indeed, worries about how much the odds are stacked against small investors--and their potential losses--have helped keep single-stock futures illegal in the U.S. Congress legalized them in late December only after a 19-year lobbying drive by the Chicago futures exchanges that was given new life by the competitive threat raised by their legalization in Britain. Such futures started trading at London's International Financial Futures & Options Exchange on Jan. 29. To be sure, these contracts will have some legitimate use for institutions, who can start trading come August. But brokers salivating at the opportunity to market to individual investors should hold themselves in check. Regulators plan to make them determine the ''suitability'' of investors they deal with--and be liable for choosing badly. An aged pensioner who has never bought stock, for instance, is not as sound a marketing target as a 30-year-old independently wealthy financier. Indeed, firms that push futures on naive investors will risk lawsuits and disciplinary actions. Yet for all the precautions, it's likely that some sophisticated investors will still get burned. Daytraders, in particular, could compound their losses if they jump in without adequate knowledge. The high risks may be the reason these products are off to a fairly slow start in the U.K. In the second week of trading, only a modest 36,370 futures contracts were traded. ''They're dead on arrival,'' says Robert E. Whaley, a professor of finance at Duke University's J.B. Fuqua School of Business. But, once marketers in the U.S. get hold of them--especially given the cutthroat rivalries among the Chicago Board of Trade, the Chicago Board Options Exchange, and the Chicago Mercantile Exchange--things could be different. ''We intend to be a major player,'' says Merc chairman Scott Gordon. Investors, hang on to your wallets. By Joseph Weber with Kerry Capell Weber covers the exchanges in Chicago while Capell covers the London markets. _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ BACK TO TOP					INTERACT E-Mail to Business Week Online

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