A futures contract is a lawfully critical contract between two parties to purchase or sell an asset at a predetermined price on a specific future date. These standardised agreements are traded on exchanges and include different underlying investments such as commodities, currencies, securities, or market indices.
Characteristics of a Futures Contract
- Standardised contract: Futures contracts have standardised terms, including the quantity, quality, and delivery date of the underlying asset.
- Exchange-traded: They are exchanged on classified exchanges, delivering liquidity and clarity.
- Margin conditions: All merchants must provide the initial margin and maintain a maintenance margin, which functions as collateral.
- Leverage: Futures deliver effective leverage, permitting merchants to maintain a bigger asset position with a rather small portion of the capital.
- Price clarity: Real-time price data is readily obtainable, guaranteeing suitable market pricing.
- Mark-to-market: Positions are settled daily, with profits and losses realized daily.
- Risk control: Often employed to evade cost fluxes in the underlying investment.
Types of Futures Traders
There are two main future traders: hedgers and speculators. Hedgers seek protection against future price volatility and aren’t looking to profit from the deal but want to stabilise the price of their product. Speculators, on the other hand, aim to profit from market price fluctuations.
Example
For instance, if you’re interested in purchasing stock X, currently priced at Rs. 100, you can enter a futures contract to buy it at a later date, say two days from now. This agreement with the exchange ensures you pay Rs. 100 in two days, regardless of any market price increase of stock X.
Conclusion
Futures contracts are powerful financial instruments for controlling threats, assuming price trends, and guaranteeing positions in diverse assets amidst market volatility.
