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Before you learn to invest in futures and options, first understand the basics. Futures and options are a type of derivative instrument whose value is derived from an underlying asset. Whether it is stocks, indices, or commodities such as wheat, petroleum, gold, silver, and cotton. Here, we will consider trading futures and options in the stock market.
The use cases of futures and options are two-fold. The first is to help the market participants hedge against price risks, while the other is to provide an opportunity for the hedgers and speculative traders to benefit from asset price fluctuations. The activity in the market is mostly speculative, after all.
It is important to remember that every futures and options contract requires a counterparty. For every buyer of a futures or options contract, there must be a seller or writer. This makes it a zero-sum game where one party’s gain is another party’s loss.
Options and Futures trading enable investors and traders to make money from a change in the market or hedge against exposure. While the derivatives share similarities, trading mechanisms are different. Find out the steps to follow for a successful trade.
The first step is to choose a broker that offers derivatives trading. Finish the Know Your Customer (KYC) procedure and fund your account to trade options and futures.
Grasp the market condition by combining fundamental and technical analysis. Track underlying instrument price movements and quantify volatility to make appropriate decisions.
Decide which type of contract suits your trading goals. For options, you’ll need to choose between Call Options, which provide buying rights, or Put Options, which give selling rights. For futures, determine the asset and contract size suitable for your strategy.
Create a trading plan based on your market expectations. Options traders may employ Covered Calls, Straddles, or Spreads to increase returns. Futures traders may go long if they are expecting prices to go up or short if they are expecting a drop.
You will have to have a margin account for the futures in case of a loss. Trading options, however, involve paying a premium up front to buy the contract.
Open your order for trading with your trading system with details of contract type, expiration date, strike price, and amount. Cross-checking will help ensure that your order conforms to your plan.
Watch market movements and your contract performance. For options, determine whether to exercise, sell, or let it expire according to its value. For futures, close your position before expiration or set up for settlement.
Apply risk management techniques like stop-loss orders to avoid making huge losses. Understand the leverage that is used when dealing with derivatives to avoid exposing yourself to undue risks.
Monitor your trades after every trade has been closed to review what succeeded and what failed. Keep yourself updated with live market trends and breaking news to refine your strategies.
Futures Contract Expiry is the expiry date when the contract expires and the particular contract is closed. On the expiry date, the futures contract is settled in cash or delivery of the underlying asset as agreed in the contract. The traders either need to close their positions or settle their contractual obligation on this day.
Expiry is a critical element of futures trading. It refers to the last settlement price of a contract, influencing the trader and the investor. Risk management and trading techniques depend on expiry dates.
In futures and options, the premium is the amount that the buyer of the options contract pays to the seller, or writer, for obtaining certain rights. This is paid at the time the contract is entered into.
For an option call, the premium gives the holder a right but not an obligation to purchase the underlying instrument at a given price referred to as the strike price before the expiry date. For an option put, the premium gives the holder a right but not an obligation to dispose of the underlying instrument at the strike price within the contract term.
The premium is calculated by various factors such as the prevailing market price of the underlying, strike price, remaining time for expiry, volatility in the market, and prevailing interest rate. It is the price one pays to enjoy the right to profit from positive price movements without having to buy the asset ahead of time.
F&O trading provides diversification but needs a proper understanding of its intricacies. The biggest learning is that preparation and research are paramount. Profitable F&O trading starts with researching market trends, understanding the prices, and selecting the appropriate instrument to suit your investment needs.
Another significant learning is risk management. Leverage in F&O trading compounds gains and losses, so tactics such as stop-loss orders and ensuring proper margin levels are vital. Option traders also need to keep in mind that the premium paid for contracts will get wiped out if their option expires out of the money.
The biggest thing is selecting the appropriate trading strategy. Options are versatile when it comes to application with Covered Calls, Straddles, and Spreads. But Futures are straightforward with greater responsibilities. Therefore, your strategy must fit into market situations to achieve the right results.
Lastly, discipline and timing are most important. The F&O market is highly unstable, and objective decision-making gains paramount importance. Tracking trades, learning the lessons from success or failure, and being attuned to news and events become necessities.
F&O trading is most lucrative for individuals who combine knowledge and strategy with risk management and the discipline of implementation.
Futures and Options trading is an extremely lucrative platform for earning returns as well as risk management, but not without challenges. Below is an in-depth analysis of the advantages and disadvantages of F&O trading.
A Future is a right and an obligation to buy or sell an underlying asset at a predetermined price. Options are a right without an obligation to buy or sell equity or an index. While a Call Option is a right to buy, a Put Option is a right to sell. Options and Futures are conceptually different but intrinsically the same in an online trading platform. They act as a hedge since both try to get returns from stock or an index without investing the full sum. You can open a trading account to explore futures and options.
A Future is a right and an obligation to buy or sell an underlying asset at a predetermined price. Options are a right without an obligation to buy or sell equity or index. While a Call Option is a right to buy while a Put Option is a right to sell. Options and Futures are conceptually different but intrinsically same in online trading platform. They act as a hedge since both try to get returns from stock or an index without investing the full sum. You can open a trading account to explore futures and options.
It depends on your goals. Futures suit traders who want direct exposure to price movements, while options offer flexibility with defined risks. Options may be better for beginners because of lower initial risk, but futures can provide greater returns for experienced traders. Choose based on risk tolerance and market expertise.
F&O trading is very risky, with high leverage, margin requirements, market volatility, and time sensitivity for options. Without proper knowledge or strategies, one might incur significant financial losses. Therefore, risk management is paramount for traders.
Yes, it is possible to trade F&O contracts intraday. The daily price fluctuations make many traders profit from trading with such rapidity. However, as the market is highly volatile, it is only possible through close monitoring, knowledge of the market, and strict risk management.
On expiry day, F&O contracts are settled through cash or physical delivery. Options expire worthless if out of the money, while futures positions must be closed or settled at the final settlement price of the underlying asset.
F&O trading can be profitable for skilled traders who understand market dynamics, implement effective strategies, and manage risks. However, high leverage and volatility also mean potential for significant losses, making discipline and experience crucial for consistent profitability.
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