Notional volume is often used as a measurement when valuing a derivative contract. There are also various other ways derivative contracts can be valued, such as measuring the total value of a position, how much weight a trading position controls or an agreed-upon amount in a contract. As a trader, it is important to understand notional volume because it will be used to calculate the notional amount, which is the basis for determining the amount of money in a derivatives trade and how this would affect your trades. Here’s a guide to notional volume and why it matters to traders.
What is Notional Volume
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Notional volume is a key concept in finance that refers to the total value of the position in a derivative contract, while considering the lot size. It is also used when describing options and futures trade contracts. Notional volume is typically calculated by multiplying the notional value with the lot size set by the brokerage.
Some brokerages might calculate notional volume based on different criteria. For example, suppose a brokerage decides to calculate the notional volume based on closed trades; in that case, the calculation will then depend on the closing price at the end of the day.
When is Notional Volume Used
Notional volume is commonly used in derivatives. Traders may use these derivatives to open positions with leverage, hedge against a specific market condition or take advantage of falling asset prices [1]. Using notional volume helps traders distinguish the total value of a trade from the market value when considering a trade.
Leverage allows traders to use a small amount of money to control a much larger trade size. The notional volume accounts for the total value of the position, while the market value is the price at which that position can be bought or sold in the marketplace.
The value of leverage used can be calculated by the formula below: Leverage = Notional Volume ÷ Market Value
For example, if you buy 1 lot of SPY ETF with a contract size of 100 at the price of $500, then the value of the contract is $50,000. Therefore $50,000 is the notional volume of the underlying contract. If you are trading with leverage, you will only be required to put up an initial margin which is a fraction of the notional amount. For instance, if the brokerage offers 50 times leverage, you are only required to put up an initial margin of $1,000 to make this trade of $50,000 in notional volume.
Promotions can use notional volume as a way to measure trade sizes
Financial brokers can use notional volume as a metric in their promotions. For example, this can be used as a way to measure trade sizes to gauge a client’s eligibility for trading rebates or deposit bonuses. To be eligible for some of these promotions, there is typically a required minimum trading amount, or a minimum notional volume that the broker sets.
For example, to be eligible for Vantage Loyalty Program, traders will be able to earn V-Points for every USD$1 million notional value on closed trades completed.
How do you calculate notional volume with Vantage?
At Vantage, most of the promotions adopt notional volume (USD) as one of the key criteria to be eligible for rewards offered in each promotion.
- Here is how the notional volume in USD is calculated: Notional Volume (USD) = Trading lot*Contract size*Closing price of the underlying assets*End of day product exchange rate
- To get the notional volume in millions (USD): Notional Volume in millions (USD) = Notional Volume (USD) ÷ 1,000,000
Example 1:
If you are trading 1 lot of SPY ETF with a closing price of $3800, and a contract size of 1000, the calculation will be as follows:
- Notional Volume (USD) = 1*1000*3800*1
- Notional Volume (USD) = $3,800,000
- Notional Volume in millions (USD) = 3,800,000 ÷ 1,000,000 = 3.8 million USD
Example 2:
If you are trading 0.05 lot of ARKK ETF with a closing price of $34.81 and a contract size of 300, the calculation will be as follows:
- Notional Volume (USD) = 1*300*34.81*1
- Notional Volume (USD) = $10,443
- Notional Volume in millions (USD) = 10,443 ÷ 1,000,000 = 0.010443 million USD
