1. What are futures contracts?
Traded on the exchanges, it is an agreement between a buyer and a sell er, wherein the former agrees to purchase from the latter, a fixed num ber of shares or an in dex at a certain time in the future for a pre-de termined price. In the stock market, there are two types of futures stock futures, that mirror the moves in the underlying stock and index futures, that track the indices such as Nifty.
2. Why do market participants use futures?
Futures can be used to bet on a stock or an in dex. Investors usually use it as a hedge against their share portfolios, while traders use them to bet on the direction of a stock or index in the near term. For instance, if a trader is positive on Nifty in the short term, he would buy Nifty futures. If he is bearish, he would sell Nifty futures.
The same is applicable for stocks.
3. How are futures traded?
Futures are traded in lots.
There is a fixed lot of the under lying share in every stock futures contract. The size of this lot is fixed by the exchange on which it is traded and differs from stock to stock.For instance, the lot size of Nifty is 75 (it can be bought only in multiples of 75). If Nifty futures are trading at 8000, the value of one lot of Nifty futures would be `6 lakh. So, if a trader wants to buy one lot of Nifty futures, he will have to shell out an initial margin set by exchanges, which could be 15-20% of the total value. This way he can take bets much more than what he could have afforded otherwise.
4. What is the duration of a contract?
Futures contracts are available in durations of 1 month (near month), 2 months (middle month) and 3 months (far month).Monthly contracts expire on the last Thursday of every month. Once the contracts expire, another contract is introduced for each of the three time frames.Futures contracts can be squared off at any point before the expiry.
5. What are the pitfalls of futures?
Trading in futures can be risky because, in theory , it could re sult in unlimited losses if bets go awry . For instance, if a trader buys Nifty futures (which means he is betting on Nifty to rise) and the index starts falling, he has to pay for the losses he has incurred on a daily basis. The difference between the price at which he bought and the existing level is known as mark-to-market losses. In the past, traders have been wiped off on account of losses in futures. In short, it is a high risk-high returns game.
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