Basics of Futures Trading.

What Are Futures?

Futures are derivative financial contracts that obligate the parties to execute an asset at a predetermined future date and cost. Here, the buyer must buy or the seller must sell the underlying asset at the set value, regardless of the current market price at the expiration date(cost at the termination date). Utilizing it you can trade the underlying assets by purchasing or selling them in lots and with a marginal price (minimal value) which we will examine later in this article. 

Underlying assets - The hidden underlying asset can include physical products or other money-related instruments like stocks or indices. And these are the ones from which the futures are derived.

Before we dig deeper and understand the working of a futures contract, we need to understand a few other aspects related to futures trading:-

Regulating the body of these futures?

The Futures markets or the whole money related subordinates market is managed by the regulatory authority Securities and Exchange Board of India (SEBI). This implies, there is consistently somebody overlooking the activities in the market and ensuring things run easily. 

Lot size in futures?

The lot size is a boundary in future trading. It is a standardized contract where everything is identified with the arrangement. The lot size is the minimum quantity that you will have to trade in the futures market. And the Lot size varies from one asset (stock) to another. Example:- Lot size of reliance futures is 505 and the lot size of bank nifty is 25.

Expiry of a Future contract:-

As we know, all futures contracts are time-bound. The expiry or the expiry date of the futures contract is the date up to which the agreement is valid. Past the valid date, the agreement stops to exist. Also additionally know that the day an agreement expires, new agreements are introduced by the exchanges.

Margin or marginal amount:-

In a futures contract the moment a trade is set, both the parties (buyer and seller)  involved will have to deposit some money but not the actual value of the lot. The amount has to be deposited to the broker like security amount. Generally, the money that needs to be deposited is calculated as % of the agreement value. This is called the ‘marginal amount’.  here, margins play a very pivotal role in futures trading for the speculation. For now, just remember that to enter into a futures agreement a margin amount is required, which is a certain percentage of the agreement value.

There are  SPAN and Exposure Margin which are controlled by the exchanges.

What is the Contract actually means?

Now, As we know that the futures contract has a standard minimum quantity (lot size). Presently, It is considered as a proof that you have booked your contract by giving a marginal amount(less amount). Going by this, the contract value of a futures agreement can be generalized as:-

“Actual value = Lot size x Price”

Contract value = Lot size times the Futures price.

There are many types of futures contracts for trading like:-

• Commodity futures such as crude oil, natural gas, metals like gold silver and so on.
• Stock index futures such as the NIFTY Index.
• Currency futures including Doller,  Euro and the British pound.
• The stock future like reliance, ITC, etc.

Advantages of futures trading (Why futures):-

• Traders can use the underlying assets to confirm the direction in the price of a futures contract. (Futures mimic the underlying assets)
• In Futures contracts, you only require to deposit a fraction of the actual value. So it can give you profit on a huge amount by less investment.
• Companies hedge the price of their raw materials or products they sell to protect from adverse price movements, it can provide the company with large capital.
• In futures trading, you can use high leverage.
• All the different types of trading can be done here like Intraday, short term, swing trade, etc.
• You can do short trade (making money when the price moves downwards).

Disadvantages of future trading:-

• If the stop loss is not used, You have a risk of losing more than the initial marginal amount. In this case, the leverage becomes risky.
• Your main can give you either an amplified gain or loss. (more risk more return)
• Companies can miss out many opportunities for exponential growth.

Leverage = [Contract Value/Margin]

What is Shorting?

In basic words, Shorting is the process where you can make money by shorting(selling) the stock whenever you feel that the price of a stock is likely to decline. In short, you can bid for downward movement of the price of a futures contract where you will have to sell first and purchase later.

As per your trading framework,  Biggest cash can be made in shorting.