In this blog, I am going to discuss the basics of derivative market (Futures & Options). But before proceeding I would like to begin with few basic fundamental questions generally asked about futures and options.
A derivative is a financial contract with a value that is derived from an underlying asset. An underlying asset is a security on which a derivative is based. Like stock trading in the cash, segment derivative is another kind of trading instrument. The derivative is mainly used to hedge the risk for one party of a contract. The more risk you undertake the more reward you can gain. The derivate traders who enter into a derivative contract are basically betting the future price of the underlying asset. Derivative trading is most popular among the companies who ensure profits in volatile markets.
To mitigate the risk everyday investors also look for derivative for their investment insurance.
An option is a contract between two parties in which the option buyer buys the right but not the obligation to buy or sell shares of an underlying stock at a predetermined price within a fixed period of time. Two types of stock options are available call and put options. Call options give the buyer the right to buy the underlying shares whereas put options provide the rights to sell them.
A strike price is set for each option by the seller of the option, who is also called the writer. When you buy a call option, the strike price is the price at which you can purchase the underlying asset if you select to use the option. For example, if you buy a call option with a strike price of Rs.100 then you have only the right, but not the obligation to buy the stock at Rs.100. You can also sell the call option to make a profit. Profit (the difference between the underlying stock price and the strike price). you can exercise your option and buy the stock at Rs.100.
Keep following my blogs to checks more detail about call & put options.
Both futures and options are derivative instruments. Both derived from the underlying asset that they track. Both these options are a hot favourite for the speculators. Futures contracts have been primarily used by commodity traders such as crude oil, soybeans, wheat, coffee and so on. The futures contracts are more liquid than their option contract.
The most interesting part in options trading is that the risk is limited. You know here how much max you can lose here. For options contracts profit is unlimited but the loss is limited, unlike futures.
Although future trading has some significant advantages over options it is not suitable for everyone. Because futures contracts are leveraged they can be very risky, future trading is one of the most broadly widespread markets in the retail trading community.
The derivative is the most popular trading instrument worldwide. The Futures and options segment also called F&O segments accounts for most trading across stock exchanges in India.
•To trade in futures the buyer or seller has to pay certain % of order value as margin. For example, if a trader wants to buy Reliance Industries may future 1 lot (500 units) at Rs.900. Then the buyer has to pay Rs. 4,50000 x 14% = Rs.63,000 for this trade. If the prices move up to 920 from 900 then the buyer get a profit of Rs. 10000. The percentage of profit will be 16%.
• Profits and losses are calculated on a daily basis as it’s is a margin trading until the trader buys or sells (square off) his position or the contract expires.
• The derivative has an expiry date. Three months contracts are always available. For example, right now there are 3 months future options are available. 1. April 2. May & 3. June. All contracts will expire on the last Thursday of that particular month. April contract is going to expire on 26th April, May on 31st and June on 28th. That means if you if enters in April contact then you have to square off your position by 26th April or on 26th April.
• The margin is calculated on a daily basis. You have to maintain proper margin in your account, otherwise, the broker will square off your position automatically.
• Future trading can be done on indices. Nifty future is the most popular traded future in India.
Hedging is the most important application of futures. Hedging mainly helps to protect the investors from making a loss by protecting their portfolio without selling off the stocks from the investors Demat account. Hedging is like transferring of risk without buying any insurance policy. Let’s imagine you have 4 or 5 stocks value Rs. 1,00,000 in your Demat Account and you are holding for long term. But you may worry about thinking that the market may come down but you don’t want to sell off your stocks. In this scenario, you can sell nifty future to protect yourself from the loss if the market comes down. Meanwhile, the position in the spot is ‘long’; we hedge for ‘short’ in the futures market. I will discuss hedging strategies in my future blog.
Return is always much higher in derivative trading than what you would make if you owned the stock.
What are Futures & Options (Derivative) Trading?
A derivative is a financial contract with a value that is derived from an underlying asset. An underlying asset is a security on which a derivative is based. Like stock trading in the cash, segment derivative is another kind of trading instrument. The derivative is mainly used to hedge the risk for one party of a contract. The more risk you undertake the more reward you can gain. The derivate traders who enter into a derivative contract are basically betting the future price of the underlying asset. Derivative trading is most popular among the companies who ensure profits in volatile markets.
To mitigate the risk everyday investors also look for derivative for their investment insurance.
An option is a contract between two parties in which the option buyer buys the right but not the obligation to buy or sell shares of an underlying stock at a predetermined price within a fixed period of time. Two types of stock options are available call and put options. Call options give the buyer the right to buy the underlying shares whereas put options provide the rights to sell them.
Strike price:
A strike price is set for each option by the seller of the option, who is also called the writer. When you buy a call option, the strike price is the price at which you can purchase the underlying asset if you select to use the option. For example, if you buy a call option with a strike price of Rs.100 then you have only the right, but not the obligation to buy the stock at Rs.100. You can also sell the call option to make a profit. Profit (the difference between the underlying stock price and the strike price). you can exercise your option and buy the stock at Rs.100.
Keep following my blogs to checks more detail about call & put options.
Futures vs. Options
Both futures and options are derivative instruments. Both derived from the underlying asset that they track. Both these options are a hot favourite for the speculators. Futures contracts have been primarily used by commodity traders such as crude oil, soybeans, wheat, coffee and so on. The futures contracts are more liquid than their option contract.
The most interesting part in options trading is that the risk is limited. You know here how much max you can lose here. For options contracts profit is unlimited but the loss is limited, unlike futures.
Although future trading has some significant advantages over options it is not suitable for everyone. Because futures contracts are leveraged they can be very risky, future trading is one of the most broadly widespread markets in the retail trading community.
The derivative is the most popular trading instrument worldwide. The Futures and options segment also called F&O segments accounts for most trading across stock exchanges in India.
•To trade in futures the buyer or seller has to pay certain % of order value as margin. For example, if a trader wants to buy Reliance Industries may future 1 lot (500 units) at Rs.900. Then the buyer has to pay Rs. 4,50000 x 14% = Rs.63,000 for this trade. If the prices move up to 920 from 900 then the buyer get a profit of Rs. 10000. The percentage of profit will be 16%.
• Profits and losses are calculated on a daily basis as it’s is a margin trading until the trader buys or sells (square off) his position or the contract expires.
• The derivative has an expiry date. Three months contracts are always available. For example, right now there are 3 months future options are available. 1. April 2. May & 3. June. All contracts will expire on the last Thursday of that particular month. April contract is going to expire on 26th April, May on 31st and June on 28th. That means if you if enters in April contact then you have to square off your position by 26th April or on 26th April.
• The margin is calculated on a daily basis. You have to maintain proper margin in your account, otherwise, the broker will square off your position automatically.
• Future trading can be done on indices. Nifty future is the most popular traded future in India.
What is Hedging?
Hedging is the most important application of futures. Hedging mainly helps to protect the investors from making a loss by protecting their portfolio without selling off the stocks from the investors Demat account. Hedging is like transferring of risk without buying any insurance policy. Let’s imagine you have 4 or 5 stocks value Rs. 1,00,000 in your Demat Account and you are holding for long term. But you may worry about thinking that the market may come down but you don’t want to sell off your stocks. In this scenario, you can sell nifty future to protect yourself from the loss if the market comes down. Meanwhile, the position in the spot is ‘long’; we hedge for ‘short’ in the futures market. I will discuss hedging strategies in my future blog.
Return is always much higher in derivative trading than what you would make if you owned the stock.
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