A demat account is not required for futures and options trades; instead, a brokerage account is required. Opening an account with a broker who will trade on your behalf is the best option.
The National Stock Exchange (NSE) and the Bombay Stock Exchange (BSE) both provide derivatives trading (BSE). Over 100 equities and nine key indices are available for futures and options trading on the NSE. Futures tend to move faster than options since they are the derivative with the most leverage. A futures contract’s maximum period is three months. Traders often pay only the difference between the agreed-upon contract price and the market price in a typical futures and options transaction. As a result, you will not be required to pay the actual price of the underlying item.
Commodity exchanges such as the National Commodity & Derivatives Exchange Limited (NCDEX) and the Multi Commodity Exchange (MCX) are two of the most popular venues for futures and options trading (MCX). The extreme volatility of commodity markets is the rationale for substantial derivative trading. Commodity prices can swing drastically, and futures and options allow traders to hedge against a future drop.
Simultaneously, it enables speculators to profit from commodities that are predicted to increase in value in the future. While the typical investor may trade futures and options in the stock market, commodities training takes a little more knowledge.
How much cash do you need to invest in India futures?
To trade futures, how much money do I need? Margin is required when trading futures contracts. The amount of margin will be determined by the size of the stake. To place a trade, however, most brokers will require at least 10% advance margin.
How can I get started with futures trading?
Open a trading account with a broker who specializes in the markets you want to trade. A futures broker will most likely inquire about your investment experience, income, and net worth. These questions are meant to help you figure out how much risk your broker will let you take on in terms of margin and positions.
Is futures trading permitted in India?
To keep inflation under control, the government has put a one-year moratorium on futures trading in seven agricultural commodities. Trading in seven commodities, including non-basmati paddy, wheat, chana, mustard seeds and derivatives, soya bean and derivatives, crude palm oil, and moong, has been banned until further instructions, according to the Securities and Exchange Board of India (SEBI).
In India, how are futures traded?
Derivatives, such as futures, are a sort of derivative. What are derivatives and how do you use them? Derivatives are akin to nuclear weapons! These aren’t our words, by the way. These are the remarks of Mr Warren Buffett, the world’s finest investor.
We, on the other hand, would like to politely disagree. If you know how to trade futures, you can make a lot of money. And learning exactly what futures are and how a futures contract works is the first step in trading futures.
However, before we can grasp what futures are, we must first understand what derivatives are. After all, futures are a form of derivative.
Derivatives are financial contracts whose value is determined by the underlying asset’s value.
Consider the classic example of milk and curd. Milk is used to make curd. As a result, if the price of milk rises, so will the price of curd. This implies that curd has no intrinsic worth. Its value is determined by the value of the underlying asset’milk.’
- If the price of the underlying asset rises, so will the price of the derivative.
- If the price of the underlying asset falls, so will the price of the derivative.
There are 4 types of Derivatives Contracts in India
Everything about forward contracts and options has previously been discussed. We shall discuss what futures are and the fundamentals of a futures contract in India in this essay.
Now that you know what derivatives are, let’s look at another example to see what futures are.
Let’s say you’re planning a trip to Dubai in three months. Today’s flight costs Rs 35,000. We all know that making a reservation ahead of time is always preferable. So you book a flight with Emirates today to fly to Dubai in three months. This is similar to a futures contract between you and the airlines.
What are Futures? Example of Futures
Futures are standardized contracts that allow you to buy or sell an underlying asset at a pre-determined price on a specified date. A stock, currency, commodity, or index can be used as the underlying asset.
In the above example: You’ve already chosen to spend Rs 35,000 for a trip to Dubai. This is the price you’ve set for yourself. Even if the airfare rises to Rs 40,000 in three months, you will still only pay Rs 35,000. Similarly, your travel date has been determined in advance. This is the precise date for you. You and the airlines are both bound by a contract. You must pay them Rs 35,000 in order for them to hold a seat for you on a specified day.
It’s crucial to remember that the buyer and seller will have opposing viewpoints about the underlying asset. You bought the tickets in advance because you expect the ticket costs to rise in the case above. Because the airline expected ticket prices to fall, they sold the tickets ahead of time to minimize their loss.
Let’s look at this example to see what futures are in the stock market.
Assume you expect Reliance Industries’ stock price to rise in the future months. You too wish to profit from this chance. You have two choices:
Let’s have a look at the first possibility. Assume that one Reliance Industries share costs Rs 2,000 on the open market. You’d like to purchase 100 shares. A hundred shares will cost Rs 2 lakhs!
However, you only have Rs 1 lakh to work with. As a result, you purchase 50 shares. After three weeks, Reliance Industries’ stock price jumps to Rs 2,500, as planned. You profit Rs 25,000 by selling your 50 shares. In just three weeks, you made a 25% profit! You feel like you’re on top of the world! Could you, however, have made a bigger profit?
Yes, it is correct. If you had looked into choice two, investing in Reliance Futures, you could have made a lot more money. Let’s take a look at situation number two.
You have a sum of Rs 1 lakh to invest. Let’s pretend that one Reliance futures contract costs Rs 2,186. 250 shares are contained in a single Reliance futures contract. As a result, the contract’s total value is Rs 5,46,500. The good news is that buying a Reliance futures contract does not require you to pay the full Rs 5,46,500. You only need to pay a small deposit. Later on, we’ll learn more about this.
Assume the initial margin required to carry one Reliance futures contract is Rs 64,700 for the time being. Here’s where you can figure out how much margin you’ll need.
So you pay Rs 64,700 for one Reliance futures contract. In the spot market, Reliance Industries’ share price jumps from Rs 2,000 to Rs 2,500, as projected. Remember how I said that as the price of the underlying asset rises, so would the price of the derivative.
After three weeks, the price of your futures contract rises from Rs 2,186 to Rs 2,558. You’ve made the decision to sell your contract before it expires. The cost of your purchase is Rs 2,186, and the cost of your sale is Rs 2,558. So, each share, you made Rs 372? Your total profit is Rs 93,000, because one lot of Reliance Industries has 250 shares.
You don’t have to be a financial genius to see that a 144 percent increase is preferable to a 25% gain! So, instead of buying Reliance futures on the spot market, you got the following:
- Better volumes – You could only acquire 50 shares on the spot market. However, you purchased 250 shares in the futures contract!
- Lower Capital – You invested Rs 1 lakh in the spot market, but just Rs 64,700 in the futures market.
Before you get too enthusiastic and start trading futures, here are ten things you should know about futures.
Basics of Futures Contract in India
1. Lot Size: Buying milk at the market is equivalent to buying a lot size. There are regular parking spaces. Milk is available in 250 mL, 500 mL, and 1 litre containers. You can’t ask for half a glass of milk from the shopkeeper! Futures contracts, like stocks, have lot sizes.
2. Futures Price: This is the price per share at which you will purchase futures. The price of a futures contract is often higher than the price of the underlying asset (in our example, stocks). Consider the following scenario:
3. Contract Value: The contract value of your employment is the actual value of your job. It’s computed by dividing the lot size by the futures contract’s price.
- A single Reliance Futures contract is worth Rs 5,46,500 (Rs 2,186*250).
- 1 State Bank of India futures contract has a contract size of Rs 11,60,250 (Rs 386.75*3,000).
4. Expiration Date: Every futures contract has a set expiration date. On the last Thursday of each month, all futures contracts expire. The contract will expire on Wednesday if the last Thursday is a holiday.
There are three futures contracts available for trade at any given moment. In the image below –
5. The underlying asset’s price is called the underlying price. In the case of Reliance futures, the underlying asset is the cash market share price of Reliance. In an ideal world, futures prices would move in the same direction as underlying prices.
6. Buyer of a futures contract: A buyer of a futures contract is a person who purchases a futures contract. Buyers are optimistic about the stock. This indicates that the buyer anticipates an increase in the price in the future. As a result, he is purchasing it today at a reduced price. You are said to be long on a stock when you acquire a futures contract.
7. Seller of a futures contract: A seller of a futures contract is a person who sells futures contracts. He believes the stock is overvalued. His goal is to lock in the sell price today so that a future drop will not result in a loss. You are said to be short on a stock when you sell a futures contract.
8. Futures contract settlement: In India, the vast majority of futures contracts are settled in cash before they expire. What exactly does this imply? Every futures contract has an expiration date. As a result, you must resolve them. This means that if you purchased a futures contract, you must sell it before or on the expiration date. Similarly, if you sold a futures contract, you must buy it back at the expiration date.
Futures in India were cash-settled until October 2019. However, if you do not settle your position by the expiration date, you will have to physically settle your transaction. But, in futures, what does physical and cash settlement mean? With this example, let’s look at how a future contract works.
How Do Futures Work? Workings of a Futures Contract
Assume you purchase one lot of Reliance futures with an expiration date of March 25, 2021. Your cost price per lot is Rs 2,186. The total amount of your contract is Rs 5,46,500. As a buyer, you anticipate a growth in the share price of Reliance Industries. Because you are the buyer, you must have purchased the futures contract from a seller.
As a result, the seller’s position will be valued Rs 5,46,500 as well. To square-off (close) your position, you have until March 25, 2021. Your Reliance futures contract will grow in value from Rs 2,186 to Rs 2,500 on March 20, 2021.
So you’ve made a 93,000 rupee profit. The vendor loses money when you make a profit. As a result, the vendor loses Rs 93,000. Futures are known to be a zero-sum game because of this.
You have squared off or closed your buy position by selling your futures contract. The seller’s trading account will be debited by Rs 93,000, while your trading account will be credited with Rs 93,000. This is referred to as a cash settlement. Only the difference is charged or debited to the buyers’ and sellers’ trading accounts in this case. However, cash settlements are only possible if you square-off your positions before the expiration date.
Assume you didn’t sell your futures contract until March 25, 2021. In that instance, you will be required to accept delivery of 250 shares, and the seller will be required to deliver 250 shares. Physical settlement is the term for this. This only happens if you don’t square off your position before the expiration date.
9. Open Interest: The number of open contracts or positions on a given date is referred to as open interest, or OI. A large open interest indicates a high level of liquidity.
10. Change in Open Interest: This chart depicts the daily change in the futures contract. A rise in price and a rise in OI indicate that more contracts have been added and that people are going long (buying) on the futures contract.
Now that you know what futures are and how they function, your next question might be, “Are futures safe?”
What makes them “weapons of mass destruction”?
The Securities and Exchange Board of India regulates the futures market in India (SEBI). The Securities and Exchange Board of India (SEBI) strives to protect investors’ interests in the stock market. It has put in place strong processes to ensure that neither the buyer nor the vendor breaks their agreement. Keeping the exchange as the counterparty is one such measure. In a futures contract, either the buyer or the seller can back out of their commitment if the price goes in the opposite direction of their expectations.
In a futures contract, however, this is not possible. By acting as a counterparty, the exchange ensures that both the buyer and the seller honor their contracts. As a result, the buyer buys from the exchange and the seller sells to it. The exchange subsequently transfers funds from the buyer to the seller.
If a buyer fails to pay the required amount, the exchange will pay the seller instead of the buyer and retrieve the money. As a result, in the event of a futures contract, there is no risk of counterparty default.
Another key factor to remember is that India’s futures market is quite popular and has a lot of liquidity. The following graph depicts the evolution of India’s futures markets during the last two decades.
So, futures contracts are heavily regulated and have a lot of liquidity. The key advantage of a futures contract is that it allows you to earn higher profits. Remember how you got a 144 percent raise instead of a 25% raise?
While the potential for significant returns is one of the most appealing aspects of futures, it is not the only one. Let’s have a look at the best benefits of Futures.
Advantages of Futures
- One of the most significant advantages of a futures contract is leverage. You must pay the entire contract amount upfront when buying equity shares on the spot market. This is not the case with futures, as you may get into positions by merely paying the initial margin. With an initial capital of Rs 64,700, you may take positions worth Rs 5,46,500, as we saw in the preceding case. This allows traders with small cash to access large holdings.
- Larger Profits on Limited Capital: High leverage provides investors with the possibility to generate higher returns. Investors might earn bigger returns than on the spot market since they have access to higher positions. The profit in the cash market was 25%, while the profit in the futures market was a stunning 144 percent. As a result, the second largest advantage of futures is larger returns due to increased leverage.
- Risk Hedging: Futures aren’t just for speculators and arbitrageurs. Hedgers frequently use futures to hedge their spot market bets. Assume an investor has 250 Reliance Industries shares on the spot market. However, he is concerned that the stock will drop in the near future. He can protect himself by selling futures contracts on Reliance to hedge his spot market position.
- Short-Selling Opportunities: In the spot market, you must cover your short position within the same trading day. As a result, even if they are losing money, investors are forced to square-off. With futures, however, this is not the case. You do not have to square-off your position in futures on the same day. You have the option to keep your futures contract until it expires. As a result, investors have plenty of time to cover their short holdings.
The Art of Short Selling The Best Short-Selling Strategy in the Stock Market is a must-see.
However, as lucrative as futures may be, they are not without risk. Consider what would happen if Reliance Industries’ stock price dropped instead of growing. So, what happens next? There’s a good probability your 144 percent profit may become a 144 percent loss!
Don’t be discouraged, though. Futures trading can be a profitable investment strategy if you follow strong risk management principles, such as a hard stop-loss.
We’d even go so far as to say that “futures are weapons of mass wealth generation!” This weapon is also available for free to anyone. So, begin your futures trading career with Samco, India’s leading broker.
Open a FREE Samco Demat and trading account for high leverage, a superior trading platform, and a wealth of FREE futures trading ideas from experts.
Open a Samco Demat and Trading account for free right now! It takes only 5 minutes to open an account entirely online. So, employ the weapon of mass wealth generation to brighten your stock market future!
Why are futures preferable to stocks?
Futures are significant tools for hedging and managing various types of risk. Foreign-trade companies utilize futures to manage foreign exchange risk, interest rate risk (by locking in a rate in expectation of a rate drop if they have a large investment to make), and price risk (by locking in prices of commodities such as oil, crops, and metals that act as inputs). Futures and derivatives help to improve the efficiency of the underlying market by lowering the unanticipated costs of buying an item outright. Going long in S&P 500 futures, for example, is far cheaper and more efficient than buying every company in the index.
How do you make money using futures?
Futures are traded on margin, with investors paying as little as ten percent of the contract’s value to possess it and control the right to sell it until it expires. Profits are magnified by margins, but they also allow you to gamble money you can’t afford to lose. It’s important to remember that trading on margin entails a unique set of risks. Choose contracts that expire after the period in which you estimate prices to peak. If you buy a March futures contract in January but don’t expect the commodity to achieve its peak value until April, the contract is worthless. Even if April futures aren’t available, a May contract is preferable because you can sell it before it expires while still waiting for the commodity’s price to climb.
How much capital do you require to begin trading futures?
If you assume you’ll need to employ a four-tick stop loss (the stop loss is four ticks distant from the entry price), the minimum you should risk on a trade in this market is $50, or four times $12.50. The minimum account balance, according to the 1% rule, should be at least $5,000 and preferably higher. If you want to risk a larger sum on each trade or take more than one contract, you’ll need a bigger account. The recommended balance for trading two contracts with this method is $10,000.
What is an example of future trading?
Commodity futures trading is very common. When someone buys a July crude oil futures contract (CL), they are promising to buy 1,000 barrels of oil at the agreed price when the contract expires in July, regardless of the market price at the time. Similarly, the seller agrees to sell the 1,000 barrels of oil at the agreed-upon price. The original seller will deliver 1,000 barrels of crude oil to the original buyer unless either party trades their contract to another buyer or seller by that date.