INTRODUCTION :
when we enter the world of finance and investing we generally see four sections of derivatives namely – FUTURE, OPTIONS, sWAPS, and FORWARDS, all of these derivatives have their ways of executing in the markets, the more we learn about them the better it becomes for us to understand the dynamics of the market.
UNDERSTANDING FUTURE CONTRACTS
future contracts: as we know a future contract is an agreement between two parties to sell or buy the future of any security according to the modes of exchange clearing houses, it generally works on a simple principle when the majority of traders or investors buy(long) the future then the price tends to go up and when majority of investor or trader plans to sell (short) the future then the prices tends to go down.
future contracts are generally applicable for stocks, indexes, currency, commodities, and interest rates, investors and traders generally use future contracts to observe the trend and conditions of the market to invest. in this blog, we will discuss the contracts of futures in detail.
SPECIFICATIONS OF FUTURES CONTRACT
CLOSING OUT POSITIONS
the vast majority of futures contracts do not lead to delivery. the reason is that most traders choose to close out their positions prior to the delivery period specified in the contract.
closing out a position means entering into the opposite trade to the original one now for example: a trader who bought a September index futures contract on June 5th can close out the position by selling one September futures contract on July 20 ( since the delivery date was on September end the trader didn’t waited onto it).
in each case, the traders total gain or loss is determined by the change in the futures price between june 5 and the day when contract is closed out.
THE CONTRACT SIZE: the contract size specifies the amount of asset that has to be delivered under one contract. this is an important decision for the exchange as well. if the contract size is too large many traders who wish to hedge relatively small exposure or who wish to take relatively small speculative positions will be unable to use the exchange.( during such times they use the derivative called swaps – which is used for macro level form , you can watch it on the movie “BIG SHORT”)
THE DELIVERY MONTHS: a futures contract is referred to by its delivery month. the change must specify its precise period since for different futures the dates are different. the delivery months may vary from contract to contract and are chosen by exchange to meet the needs of market participants.
PRICE LIMITS AND POSITION LIMITS OF CONTRACTS
for most contracts, daily price movement limit are specified by the exchange. if in a day the price moves down previous day close by an amount equal to the daily price limit, then the contract is said to be limit down. if it moves up by the limit it is said to be limit up.
a limit move is a move in either direction equal to the daily price limit. normally trading ceases for the day if the contract touches the limit up or limit down once, however in some instances the exchange has the authority to step up and change its limit range.
CONVERGENCE OF FUTURE PRICE TO SPOT PRICE
as the delivery period for a future contract approached, the future price converges( gets equal) to the spot price of the underlying asset.when the delivery period is reached the future price equals or very close to spot price.
- SELL ( SHORT) A FUTURE CONTRACT
- BUY ( LONG ) A FUTURE CONTACT
- MAKE DELIVERY OF A FUTURE CONTRACT
relationship between futures price and spot price as the delivery period is approached
CONCLUSION
this is the details about future contract wheather you trade in stock future or index future the process remains same , if you all like the process then please comment below so that we can upload the articles on other derivatives as well.
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