In addition to trading in equity, debt and commodities, markets also provide traders with the choice of taking positions in the F&O (futures & options) segment. Futures and options are derivative instruments, as they derive their value from underlying assets, such as equity, currencies, and commodities.
A futures contract is nothing but a contract that will be settled in the future, i.e., on a predetermined date and for a pre-decided consideration. Let’s understand how futures contract trading is done.
Basics of a futures contract
Now, a futures contract is not the same as a forward contract. Futures contracts are traded on recognised stock exchanges, while forwards are over-the-counter contracts. Moreover, future contracts are standardised, and the exchange guarantees the settlement.
What are the types of futures contracts and how can you trade in them?
While there are futures contracts for various assets, the two most popular are index futures and stock futures. A futures contract is different from an options contract because the futures trade has to be honoured – there is no option available.
You can trade in a futures contract to hedge against an unfavourable position or profit from the trade. If you wish to invest in a commodity, say gold or oil, then a futures contract will help you fix the price of the future transaction in advance, giving you the peace of mind you need.
What are index futures?
An index is a collection of all the stocks within a group. The indexes that have the maximum trade volume are Nifty 50 and Bank Nifty. A futures contract on an index is called an index future, and a futures contract has a fixed lot size and a fixed time to expire. Let’s look at the futures contracts trading in the market depending upon their time to maturity.
1) Near month contract – Usually one month
2) Middle month contract – Usually two months
3) Far month contract – Usually three months
A new far month contract gets added when the near month contract expires, thereby continuing the chain.
What are stock futures?
Like index futures, stock futures trade also happens in lots, and every contract has a set maturity period. These futures are stock-specific. However, the lot size varies. For example, Reliance Industries Ltd futures has a lot size of 600 shares while Aditya Birla Fashion has a lot size of 2600.
Things to know before trading
The Forward Markets Commission regulates the commodities futures market in India. The trades are exchange settled, and hence there is no default loss. Future contracts are settled daily – this mechanism is called Mark to Market (MTM) settlement. This mechanism minimises the chances of default and instils confidence in the market.
You can place an order for a futures contract through your broker’s interface. If you need help deciding the quantum of investment in futures as per your pre-defined goals, consider reaching out to experts.
A futures trade has a low margin requirement. But markets are volatile, and every trade comes with risks. Hence, it is crucial to trade wisely.