In a Derivative market, we can either deal with Futures or Options contracts.A Futures Contract is a legally binding agreement to buy or sell any underlying security at a future date at a pre determined price. The Contract is standardised in terms of quantity, quality, delivery time and place for settlement at a future date (In case of equity/index futures, this would mean the lot size). Both parties entering into such an agreement are obligated to complete the contract at the end of the contract period with the delivery of cash/stock.
Exchange is a marketplace for buyers and sellers to participate in Futures Contracts with ease and with access to all market information, price movements and trends. Bids and offers are usually matched electronically on time-price priority and participants remain anonymous to each other. Indian equity derivative exchanges settle contracts on a cash basis.
Futures are used to both hedge and speculate possible price movements of stock. Participants in a Futures market can profit from such contracts because they can enjoy benefits without actually having to hold on the stock until expiry. Holder can hold his buy position with the expectation of a possible increase in the price until the contract expires and can also hedge his position by entering into a another Futures Contract with another seller, with the same Contract specifications – ie – quantity, quality, price, time period and location.
Futures are leveraged standardised contracts with linear returns in reference to the underlying asset and are traded on a secure and monitored Exchange platform, thereby reducing credit risk.