Lot size

• A lot size is fixed for each derivative by the exchange.

• Futures are bought and sold in ‘lots’.

• A lot size fixed by the exchange cannot be divided into smaller numbers. For example, one lot of Reliance futures is 505 shares. So, if the shares are trading at Rs.2000, then the total value of the lot is Rs.10,10,000 (Rs. 2000*505)

• Each stock or commodity will have a different lot size.

• Only those stocks specified by SEBI have a futures contract and traded on the exchange.

Value of a Lot

• The price of share*lot size is the value of one lot.

• It will be approximately 2 to 3 lakhs rupees per lot.

Margin Money

A person who enters into a futures contract is not required to pay the entire value. Only a small percentage of the contract value is needed. The margin percentage depends on the volatility and could range from 10% to 40%. It is called margin money.

To take Reliance shares as an example, the margin at 30% would amount to approximately Rs.3,03,000.

NSE decides the percentage of margin money that has to be maintained, which keeps changing daily.

Life of a Contract

• The life of a contract is three months.

• Three futures contracts are available for trading at any given time. Each has a different expiry time limit. They are Near (1 month), Next (2 month) and Far (3 month) contracts.

Different type of Futures

• Stock futures and stock index futures contracts traded on the NSE

• Commodity futures contracts traded on MCX / NCDEX

• Interest rate futures contracts traded on NSE

Open Interest

• ‘Open interest’ is the number of contracts that are ‘not settled yet.’

• Open interest is a term for describing a buy and sell pair.

• In the futures market, for each contract, there must be a seller and a corresponding buyer.

• For example, if Mr. Mohan (buyer) were to buy two futures contracts from Mr. Rajesh (seller), then open interest goes up by two.

• Open interest is the number of open contracts multiplied by lot size. Open-interest will not be more than the total number of shares in the company.

An increase in open interest indicates that money is coming in.

Marked to Market

Prices of a futures contract are marked to market because Authorities regularly monitor the futures contracts.

Change in contract value changes every day, and the same gets updated in the trader’s account at the end of the trading day.

If the price of your futures contract were to increase, then the gain in price is credited to your account. On the other hand, if the price were to drop, then the loss is debited to your account. It is done every day until the settlement of the contract.

Trading screen for the futures contract

Just like equities, every futures contract is coded and is available on the trading screen.

The contracts are available for trading in alphabetical order.

Three futures contracts are available on the trading screen at any given time. Each has a different expiry time limit. They are Near (1 month), Next (2 month) and Far (3 month) contracts.

The screen shows the open price, high, low, and traded quantity, etc.

Long and Short Positions

A purchase position that is open and not settled is called a long, and an unsettled sell position is called a short.

Spot and Spread

A spot price is a price on the cash market, and the futures price is the price of the futures contract.

A spread is a difference in prices between two contract prices. Let us say that the M&M October futures contract is trading at Rs.617, and the M&M December contract is trading at Rs. 622. The difference between the two prices is called the spread.

The difference in the bid price and ask price is also known as the spread. So, the term spread has to be in the right context.

Usually, the futures contract price is higher than the spot price.

Expiry date of a contract

All futures contracts expire on the last Thursday of every month. As the contract loses its validity, all obligations and rights have to be satisfied. In other words, it ceases to exist.

A near month contract, say October, will expire on the last Thursday of the current month. For example, the Reliance October contract (1 month) will expire on the last Thursday of October, and the November contract (2 month), will expire on the last Thursday of October, and so on.

If the last Thursday were to fall on a holiday, say Divali, the expiry will be on the previous trading day.

All contracts are settled automatically on the day of expiry.

A new series of contracts are introduced into the system on the day following the expiry.

Settlement

Futures contracts are usually cash-settled as the actual delivery does not take place.

Traders use futures contracts for hedging price risks, or speculators use futures contracts to take advantage of price fluctuations. Usually, they are not interested in taking delivery of the underlying asset.

Let’s take the example of a person who has bought an M&M futures contract for Rs.617. At the time of expiry, if the price is Rs.627. He will be paid the price difference, and also his initial margin as the settlement by the exchange.