Understanding the daily price limit is essential for traders, especially in the volatile derivatives market. The daily price limit, set by exchanges, is the maximum range within which a financial instrument can fluctuate during a trading session, ensuring orderly trading. For those using platforms like Topstep, this limit takes on added significance. Trading Funder’s analysis shows that Topstep enforces a strict rule prohibiting trades within 2% of this limit, aiming to protect traders and the firm from excessive market risk. This article delves into the daily price limit, its operation within Topstep, and the importance of adhering to this rule for trading success.
What is the Daily Price Limit?
The daily price limit refers to the maximum price range limit that a traded financial instrument is permitted to fluctuate within a given trading session. The daily price limit has two forms, namely, limit up and limit down.
Limit up represents the maximum amount a price can increase within one trading day.
While the Limit down is a representation of the maximum amount that a price is allowed to fall during one trading day.
A daily price limit is a form of intervention used by exchanges to ensure that orderly trading conditions are maintained during periods of turbulence in the markets. It is commonly seen in the derivatives market, such as options and futures markets, so excessive volatility can be limited. This is why it is seen in the Topstep funded program since the company focuses on providing traders with capital to trade the futures market.
What does the Topstep Rule “Trading Within 2% of a Price Limit” means?
The Topstep rule states that trading within 2% of the daily price limit of a product is not allowed. Having already explained the price limit, as discussed above, its value is usually expressed as a percentage to make it easier for traders to calculate and understand. The exchange used by Topstep is the Chicago Mercantile Exchange (CME), and this exchange determines the daily price limits for the different products available for trading.
See here the daily price limit for each product on CME. Values change daily.
Knowing that the daily price limit represents a range of prices that a product cannot fluctuate beyond a trading session, Topstep does not allow its traders to trade within that range. This will be explained with the example below.
Let’s assume that the price of an instrument yesterday was $100, with CME putting a price limit for that instrument at 10% both in terms of the limit up and limit down; this essentially means the instrument’s price must not go up or down beyond 10% ($90/$110). If the price reaches that limit, the market for that instrument will be closed instantly, and traders will have their money stuck in the exchange. It then becomes extremely difficult to exit such trades, and by the time the market opens up again, it could have all gone wrong, with the trader incurring substantial losses.
However, because of the Topstep rule that applies 2%, the permitted range is reduced from 10% to 8% leading to new values for the limit down and limit up, respectively ($92/$108). Thus, traders cannot trade if the price is close to these values. In this case, if the price is $93, they can trade that instrument, but if it is $91, they cannot. On the other hand, if the price is $107, the instrument can be traded, but if it is $109, then it cannot be traded.
Examples of violating the 2% Price Limit rule
As mentioned earlier, the simplest way for traders to ensure they are not trading within 2% of the daily price limit of any product is to consistently observe the % Net Change for the contract they are involved in via the Quote Board of their trading platforms. However, traders can sometimes get carried away, and they end up violating this rule. Below are examples of how traders can violate this 2% daily price limit rule.
For the first example, let us assume that a trader trades the ESM0 contract between 5:00 PM CT on 5/10/2022 and 8:30 AM CT on 5/11/2022, with the price limit at 5% up or down. If the trader knowingly or unknowingly trades ESM0 when the % Net Change on the day exceeds 3% up or down (the 2% Topstep threshold subtracted from the 5% price limit), then the trader has violated the price limit rule.
For the second example, we still assume the trader is trading the ESM0 contract, but the trade is occurring at 9:00 AM CT on 5/11/2022, with the price limit now at 7% (down only). If the % Net Change on the day should exceed 5% down (the 2% Topstep threshold subtracted from the 7% price limit), then the price limit rule has been violated.
How and where to verify the Daily Price Limit used by Topstep?
To verify the daily price limit, there is a Quote Board/Radar Screen on the trading platform of Topstep, and this shows the “Net Change” for each trading day, which reflects the movement of prices. However, this “Net Change” can be displayed as a percentage “% Net Change.” This allows the trader to know how close a product is to the price limit so that necessary actions can be taken.
Is this rule used in the Trading Combine®?
This rule is not used in the Topstep Trading Combine challenge, as it is only applied in the following accounts:
- Pro Account.
- Funded Account.
- Premium Funded Account.
- Express Funded Account.
Why does Topstep use this rule?
Topstep uses this rule to protect its traders and the firm, so maintaining a trading position in the market when a product trades within 2% of a price limit is not permitted.
Volatility is a major feature of the futures market. This is why exchanges use price limits to dissuade potential manipulation of price movements in the markets while protecting investors from excessive price movements.
Considering that Topstep is responsible for funding its traders, it is only appropriate to enforce this rule so that its interests, as well as those of its traders, are protected.
Let’s face it, volatility and limits are not a good place for a trader to find out about his/her risk aversion. This is another reason traders are advised to have an in-depth knowledge of the market they are trading since there is always a considerable level of risk involved in each market. Traders should also be mindful of the contract specifications and price limits for any product they are trading, so they do not end up putting themselves in difficult trading positions.
Conclusion on Topstep 2% of Daily Price Limit Rule
Understanding the daily price limit is crucial for managing risk in volatile markets, especially when trading futures with firms like Topstep. Trading Funder’s analysis emphasizes the importance of Topstep’s 2% price limit rule, which prohibits trading within 2% of the daily price limit set by exchanges like CME. This rule protects both the firm and traders from excessive volatility and ensures that trades aren’t executed in unstable market conditions. By consistently monitoring the “Net Change” on trading platforms, traders can avoid violating this rule and better manage their funded accounts.
