What are derivatives?
As the name suggests, a derivative derives its value from the price of an underlying item, such as an asset or index. Derivatives are financial contracts which include stocks, indices, commodities, currencies, exchange rates, or the rate of interest. These financial instruments help you trade on the future value of the underlying asset.
In the stock market, the derivative value is derived either from a stock or from an index. Derivatives contracts are broadly categorized into 2 sets futures and options FNO. These could be employed to meet a variety of needs and you could choose them based on your risk appetite.
What is the difference between Futures and Options ?
Futures are contracts that obligate parties to buy or sell an asset at a predetermined future date (which is known as expiry date) and price. In Futures, you pay a percentage of the underlying price while trading.
Options contracts give you the option, but not the obligation, to buy or sell an underlying asset at a predetermined price by a predetermined date. In the options market, you pay or receive a premium that is calculated by the exchange to trade on the underlying price. When you buy an option, you pay the premium while when you sell an option, you receive a premium.
Example of derivatives
Suppose you buy a Futures contract of a stock that trades at Rs 1,000 in the spot market. On the last Thursday of the month, the contract is set to expire which as of today is 27-Jul-23.
To trade on this instrument, you will have to pay a part of the contract assume its 20 percent of the underlying which amount to Rs.200.
Now on expiry date if the share price is at Rs 1,100 then you will receive your Rs 200 back, with Rs 100 profit as you have got the direction right.
The seller in this futures contract will stand to lose Rs 100 as the trader got the direction wrong. Had the price remained unchanged, no one would have received or paid any sum of money.
Which stocks and indices are available on NSE?
NSE is the dominant player in the stock market and the following contracts are available
Indices: Four indices that are traded in the derivatives market which include Nifty, Bank Nifty, Nifty Midcap Select Index (MIDCPNIFTY) & Nifty Financial Services (FINNIFTY)
Stocks: As of now, there are 186 stocks that are available for trading in FNO market. This list is reviewed periodically based on criteria laid out by the exchanges.
What are the expiry dates?
The monthly contract expiry is the last Thursday of the month which for the next 3 months will be July 27th, August 31st and September 28th. Stock futures, as of now, have only 1 expiry date which is last Thursday of the month.
On Index options there are weekly expiry days as well: Tuesday for Nifty Financial services, Wednesday for Nifty Midcap, Thursday for Nifty and Friday for Sensex.
(Edited by : Vahishta Unwalla)
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