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What are Futures Contracts? | F&O Trading | Share Market Basics Terminology

What are Futures Contract-TaxIndiaClub

Here, you will get to learn what are Futures. What are Futures Contracts?, Types of futures contracts, Purpose of Trading in Futures. F&O Settlement, Expiry date of Futures, What is Predetermined Dates and Prices in Future, How does Settlement take place in Futures Trading, and F&O Settlement.

Basically, there are 4 Types of Derivatives, Which are as Follows.

  1. Forwards Contract
  2. Futures Contract
  3. Options
  4. Swaps

but, here, we are discussing the Futures Contracts. So that, you can clear your Concept regarding F&O Trading.

What are Futures Contracts?

A Futures Contract is an agreement between two parties that commits one party to buy an underlying financial instrument (bond, stock, or currency) or commodity (gold, soybean, or natural gas) and one party to sell a financial instrument or commodity at a specific price at a future date.

Future is Derivatives Financial Contacts which create an obligation on Asset to Transact an Assets at Predetermined future Date and Price.

Futures are exchange-traded contracts to buy or sell an asset in the future at a price agreed upon today.

In Future Contracts, you can Trade on various Assets such as Stocks, Index, Commodity, and Currency. The asset can be share, index, interest rate, bond, rupee-dollar exchange rate, sugar, crude oil, soybean, cotton, coffee, etc.

Types of Futures Contracts

There are Two Types of Future Contracts that you can Trade on the Stock Market.

  1. Single Stock Futures
  2. Index Futures

1. Single Stock Futures

A single stock futures contract is an agreement to buy or sell shares of stock such as Microsoft, Intel, ITC, or Tata Steel at a point in the future.

The buyer has an obligation to purchase shares of stock and the seller has an obligation to sell shares of stock at a specific price at a specific date in the future.

Thus, a stock futures contract is a standardized contract to buy or sell a specific stock at a future date at an agreed price.

Single stock futures contracts are completed via offset or the delivery of actual shares at expiration.

2. Index Futures

A contract for stock index futures is based on the level of a particular stock index such as the NIFTY or BSE Sensex.

The agreement calls for the contract to be bought or sold at a designated time in the future.

Types of Futures Contracts-TaxIndiaClub

F&O Settlement

Generally, the Futures Contracts are expired on the Last Thursday of the Month. F&O Settlement is done with Two methods as per the Stock Exchange.

  1. Cash Basis Settlement
  2. Delivery Basis Settlement

The agreement is completed at a specified expiration date by physical delivery or cash settlement or offsets prior to the expiration date.

It is not necessary to wait for the expiry day once you have initiated the position. You can square up your position at any time during the trading session, booking profit or cutting losses.

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Purpose of Trading in Futures

Trading in futures is for two purposes namely:

  1. Speculation
  2. Hedging

(a) Speculation: Normally, Speculation is done with the intention to earn a Profit.

(b) Hedging: In simple language, hedging is used to reduce any substantial losses/gains suffered by an individual or an organization.

You can do directional trading using futures. In case you are bullish on the underlying stock or index, you can simply buy futures on stock/index. Similarly, if you are bearish on the underlying, you can sell futures on stock/index.

You can also read: What is Bull Market v/s Bear Market? | Stock Market Basic

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