Different types of futures contracts

A futures contract is a right and an obligation to buy or to sell an asset. Remember when we talk of types of futures contracts, there are futures across asset classes. The different types of futures contracts include equity futures, index futures, commodity futures, currency futures, interest rate futures, VIX futures, etc. The concept across all the types of futures is the same. They are all a contract between a buyer and seller for delivery at a future date.

What is the Differents of futures contracts

Let us take a quick look at the different types of futures contracts available in India. Remember, these futures options are different from options because an option is a right to the buyer without an obligation; and an obligation to the seller without the right. For now, let us stick to futures.

• Equity stock futures: If you expect Reliance to go up and want to buy 1000 shares but don’t have the money, then what do you do? You can buy Reliance Futures. Similarly, if you expect the Reliance price to go down, you can also sell the Reliance futures. Either way, you make profits if the price movement is in your favor, otherwise, you make a loss. Equity futures in the organized format is less than 20 years old in India. Equity futures give you leverage. You deposit an initial margin like say 20% with the broker and you can trade 5 times the money you have. Futures are only available on a selected list of stocks.
• Equity Index Futures: If you don’t want to take the risk of stocks, you can buy or sell index futures. In India, the Nifty futures and the Bank Nifty futures are not only popular but also extremely liquid. Index futures can be used to speculate on the movements of broad-based indices with lower risk than stock futures. Index futures can be used for hedging and arbitrage but we will not get into all that now.
• Currency Futures: This organized currency futures market came into India in 2008 and has become extremely popular. You can bet on currencies and protect your currency payment or receipt risk. For example, if you expect the dollar to strengthen, you buy USDINR futures and if you expect the rupee to strengthen then you sell USDINR futures. You can trade futures on dollars, pounds, euros, and yen.
• Commodity Futures: have been very popular but CTT has taken some sheen off commodity futures. Like the other futures, commodity futures also allow hedging against price changes in the various commodities including agricultural products, precious metals like gold and silver, hydrocarbons like oil and natural gas as well as industrial metals like aluminum, zinc, nickel, and copper. Initial margins are low in commodities so it attracts a lot of speculators. Commodity futures happen principally in MCX and NCDEX in India.
• Interest rate futures: Interest rate futures represent a contract to buy or sell government security or T-Bill at a specified price on a predetermined date. The interest yield is implied in the bond prices and you can bet on rates rising or rates falling and also hedge your interest rate risk.
• VIX Futures: The VIX is the volatility index and you can bet on whether market volatility will go up or go down. It has nothing to do with the market direction. VIX is called the Fear Index and is a barometer of investor panic. Normally sharp market corrections are accompanied by a spurt in VIX.

What are futures?

As the name suggests, the future is a contract that pertains to the future. In finance parlance, futures are a contract that is legal and standardized. It is an agreement to buy or sell an underlying asset at a predetermined price at a specified time in the future. Normally, this deal is between two parties not known to each other. Futures are different from forwards in the sense that forwards are customized OTC products but futures are standardized exchange-traded products. On NSE and BSE, all futures contracts have the counter-guarantee of the clearing corporation.

What are derivatives?

In the world of finance, a derivative is a contract that derives its value from the performance of an underlying asset. In short, that is how the word derivative comes as it derives value from an underlying. This underlying can be an asset, index, or interest rate, and is often simply called the "underlying".

Derivatives contracts are typical of four categories viz. forwards, futures, options, and swaps. These four products combined are called derivatives.