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Home » p » Futures and Options. Futures and options are the major types of stock derivatives traded in a share market. These are contracts signed by two parties for trading a stock asset at a predetermined price on a later date. Such contracts try to hedge market risks involved in stock market trading by locking in the price beforehand. Future and options in the share market are contracts which derive their price from an underlying asset known as underlying , such as shares, stock market indices, commodities , ETFs , and more.
Futures and options basics provide individuals to reduce future risk with their investment through pre-determined prices.
However, since a direction of price movements cannot be predicted, it can cause substantial profits or losses if a market prediction is inaccurate. Typically, individuals well versed with the operations of a stock market primarily participate in such trades.
Future and option trading are different in terms of obligations imposed on individuals. While futures contract holds the same rules for both buyers and sellers of a contract, an options derivative can be divided into two types. Individuals entering an options contract to sell a particular asset at a pre-asserted price on a future date can do so by signing a put option contract.
Similarly, individuals aiming to purchase a particular asset in the future can enter into a call option to lock in the price for future exchange.
Traders engaging in future and option trading can be classified into the following types. Such individuals enter into futures and options contracts in the share market to reduce investment volatility concerning price changes. Locking in a price for transaction at a future date helps individuals realise relative gains if the price moves adversely with respect to a trading position assumed by a buyer.
Types of assets covered:. The price of TCS in the market is Rs. View: When politics comes in the way of prudence Updated: Apr 01, , P-Varanasi U. If you think the stock price will go down: buy a put option, sell a call option. Enroll now in a top machine learning course taught by industry experts.
However, in case of a favourable fluctuation, individuals entering into a futures contract can incur significant losses. Such risk is mitigated in an options contract, as an investor can pull out of a deal in case of favourable price swings. Hedgers aim to secure their gains or expenditures in the future by entering into a derivative contract. Such traders are popular in the commodity market, wherein individuals try to secure an expected price of a particular item for a successful exchange. Understand it with the help of a future and option trading example.
A farmer can enter into a futures contract with a wholesaler to sell 50 kg of potato for Rs. On the day of maturity, if the price of potatoes falls below that level, the farmer successfully hedged his position to minimise the overall risk associated with trading in the future. However, in case of a price rise in the potato market, a farmer stands to lose out on profits.
The price of agricultural commodities fluctuates, foreign exchange rates change from minute to minute, interest rates and equity indexes rise and fall. Nothing stays the same.
And that's why futures are so useful and so essential to business operations all over the world. Fundamental analysis is the study of the factors that affect supply and demand. The key to fundamental analysis is to gather and interpret this information and then to act before this information is incorporated into the futures price. This lag time between an event and its resulting market response presents a trading opportunity for the fundamentalist. This approach to price prediction is based on the premise that price movements follow consistent historical patterns.
Those who engage in technical analysis study charts or statistics that measure price movements and try to find repetitive patterns. They start with the basic bar chart that plots high, low and closing prices of a futures contract over the life of the contract.
Current activity is watched carefully for familiar patterns of price movement. A futures brokerage firm "house" that is a member of Chicago Mercantile Exchange CME places orders to buy or sell futures or options contracts for companies or individuals and earns a commission on each transaction.
Everyone who trades futures and options on futures contracts must have an account with a futures brokerage house, which is officially called Futures Commission Merchant FCM. Futures brokerages are not the same as stock brokerages, but some companies are licensed to trade both stocks and futures. Chicago Mercantile Exchange provides and regulates a marketplace where futures and options on futures are traded. CME clears, settles and guarantees all matched transactions in CME contracts occurring through its facilities.
All people who trade futures contracts are not speculators. People who buy and sell the actual commodities can use the futures markets to protect themselves from commodity prices that move against them.