Stock Futures Tybfm Sem - 5

8/4/2019 Stock Futures Tybfm Sem - 5

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STOCK FUTURESSUBJECT - DERIVATIVES MARKETSGUIDE SANJAY RODE

08/09/2011


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Group

1.AAKASH HINDOCHA015

2.ROMIT PARIKH..033

3.RUSHABH SETH.042


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INDEX

NOS TOPIC

1 INTRODUCTION

2 BRIEF HISTORY OF SINGLE STOCK FUTURES

3 DIFFERENT FROM STOCK OPTIONS

4 OPPORTUNITIES OFFERED BY STOCK FUTURES

5 STOCK FUTURES TRADING

6 MARKET OUTCOME

7 PARTIES IN SINGLE STOCK FUTURES TRANSACTIONS

8 BENEFIT OF TRADING SINGLE STOCK FUTURES

9 WHERE ARE SINGLE STOCK FUTURES TRADED ?

SINGLE STOCK FUTURES MARKET

10 RISK OF SINGLE STOCK FUTURES11 EFFECT OF INDEX FUTURES ON STOCK MARKET

12 OTHER RECOMMENDATION

13 STANDARIZATION

14 MARGIN

15 FUTURE CONTRACTS

16 WHO TRADES FUTURES

17 CONCLUSION

18 BIBLIOGRAPHY


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INTRODUCTION

Stock Futures are financial contracts where the underlying asset is an

individual stock. Stock Future contract is an agreement to buy or sell a

specified quantity of underlying equity share for a future date at a price

agreed upon between the buyer and seller. The contracts have

standardized specifications like market lot, expiry day, and unit of price

quotation, tick size and method of settlement.

Agreements to buy or sell a standardized value of a stock index, on a future

date at a specified price, such as trading New York Stock Exchange

composite index on the New York Futures Exchange (NYFE). As an

investment instrument it combines features of securities trading based on

stock indices with the features of commodity futures trading. It allows

investors to speculate on the entire stock market's performance, short sell

(see short sale) an index with a futures contract, or to hedge a long position

against a decline in value.

A futures contract is a type of derivative instrument, or financial contract, in

which two parties agree to transact a set of financial instruments or

physical commodities for future delivery at a particular price. If you buy a

futures contract, you are basically agreeing to buy something that a seller
http://www.businessdictionary.com/definition/agreement.htmlhttp://www.businessdictionary.com/definition/buy.htmlhttp://www.businessdictionary.com/definition/sell.htmlhttp://www.businessdictionary.com/definition/value.htmlhttp://www.businessdictionary.com/definition/stock-index.htmlhttp://www.investorwords.com/9809/future.htmlhttp://www.businessdictionary.com/definition/labor-rate-price-variance.htmlhttp://www.investorwords.com/5030/trading.htmlhttp://www.businessdictionary.com/definition/New-York-Stock-Exchange-NYSE-composite-index.htmlhttp://www.businessdictionary.com/definition/New-York-Stock-Exchange-NYSE-composite-index.htmlhttp://www.investorwords.com/3276/New_York_Futures_Exchange.htmlhttp://www.investorwords.com/3369/NYFE.htmlhttp://www.businessdictionary.com/definition/investment-instrument.htmlhttp://www.investorwords.com/9217/combine.htmlhttp://www.businessdictionary.com/definition/feature.htmlhttp://www.businessdictionary.com/definition/securities.htmlhttp://www.businessdictionary.com/definition/stock.htmlhttp://www.businessdictionary.com/definition/indices.htmlhttp://www.businessdictionary.com/definition/commodity-futures.htmlhttp://www.investorwords.com/8807/allow.htmlhttp://www.businessdictionary.com/definition/investor.htmlhttp://www.businessdictionary.com/definition/speculate.htmlhttp://www.businessdictionary.com/definition/performance.htmlhttp://www.investorwords.com/5961/short_sell.htmlhttp://www.businessdictionary.com/definition/short-sale.htmlhttp://www.businessdictionary.com/definition/index.htmlhttp://www.businessdictionary.com/definition/futures-contract.htmlhttp://www.businessdictionary.com/definition/hedge.htmlhttp://www.businessdictionary.com/definition/long-position.htmlhttp://www.investorwords.com/8787/against.htmlhttp://www.investorwords.com/1335/decline.htmlhttp://www.wikinvest.com/wiki/Derivativeshttp://www.wikinvest.com/wiki/Derivativeshttp://www.investorwords.com/1335/decline.htmlhttp://www.investorwords.com/8787/against.htmlhttp://www.businessdictionary.com/definition/long-position.htmlhttp://www.businessdictionary.com/definition/hedge.htmlhttp://www.businessdictionary.com/definition/futures-contract.htmlhttp://www.businessdictionary.com/definition/index.htmlhttp://www.businessdictionary.com/definition/short-sale.htmlhttp://www.investorwords.com/5961/short_sell.htmlhttp://www.businessdictionary.com/definition/performance.htmlhttp://www.businessdictionary.com/definition/speculate.htmlhttp://www.businessdictionary.com/definition/investor.htmlhttp://www.investorwords.com/8807/allow.htmlhttp://www.businessdictionary.com/definition/commodity-futures.htmlhttp://www.businessdictionary.com/definition/indices.htmlhttp://www.businessdictionary.com/definition/stock.htmlhttp://www.businessdictionary.com/definition/securities.htmlhttp://www.businessdictionary.com/definition/feature.htmlhttp://www.investorwords.com/9217/combine.htmlhttp://www.businessdictionary.com/definition/investment-instrument.htmlhttp://www.investorwords.com/3369/NYFE.htmlhttp://www.investorwords.com/3276/New_York_Futures_Exchange.htmlhttp://www.businessdictionary.com/definition/New-York-Stock-Exchange-NYSE-composite-index.htmlhttp://www.businessdictionary.com/definition/New-York-Stock-Exchange-NYSE-composite-index.htmlhttp://www.investorwords.com/5030/trading.htmlhttp://www.businessdictionary.com/definition/labor-rate-price-variance.htmlhttp://www.investorwords.com/9809/future.htmlhttp://www.businessdictionary.com/definition/stock-index.htmlhttp://www.businessdictionary.com/definition/value.htmlhttp://www.businessdictionary.com/definition/sell.htmlhttp://www.businessdictionary.com/definition/buy.htmlhttp://www.businessdictionary.com/definition/agreement.html


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has not yet produced for a set price. But participating in the futures market

does not necessarily mean that you will be responsible for receiving or

delivering large inventories of physical commodities - remember, buyers

and sellers in the futures market primarily enter into futures contracts to

hedge risk or speculate rather than to exchange physical goods (which is

the primary activity of the cash/spot market). That is why futures are used

as financial instruments by not only producers and consumers but also

speculators.

The first futures exchange market was the Dojima Rice Exchange in Japan

in the 1730s, to meet the needs of samurai whobeing paid in rice, and

after a series of bad harvestsneeded a stable conversion to coin.

A closely related contract is a forward contract. A forward is like a future in

that it specifies the exchange of goods for a specified price at a specified

future date. However, a forward is not traded on an exchange and thus

does not have the interim partial payments due to marking to market. Nor is

the contract standardized, as on the exchange.

Unlike an option, both parties of a futures contract must fulfill the contract

on the delivery date. The seller delivers the underlying asset to the buyer,

or, if it is a cash-settled futures contract, then cash is transferred from the

futures trader who sustained a loss to the one who made a profit. To exit

the commitment prior to the settlement date, the holder of a futures position

can close out its contract obligations by taking the opposite position on

another futures contract on the same asset and settlement date. The

difference in futures prices is then a profit or loss.
http://en.wikipedia.org/wiki/D%C5%8Djima_Rice_Exchangehttp://en.wikipedia.org/wiki/Samuraihttp://en.wikipedia.org/wiki/Forward_contracthttp://en.wikipedia.org/wiki/Option_%28finance%29http://en.wikipedia.org/wiki/Position_%28finance%29http://en.wikipedia.org/wiki/Position_%28finance%29http://en.wikipedia.org/wiki/Option_%28finance%29http://en.wikipedia.org/wiki/Forward_contracthttp://en.wikipedia.org/wiki/Samuraihttp://en.wikipedia.org/wiki/D%C5%8Djima_Rice_Exchange


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BRIEF HISTORY OF SINGLE STOCK FUTURES

Single Stock Futures started trading in the US market on November 8,

2002.

Prior to 2002, trading of futures contracts on securities were disallowed as

a proper regulatory authority cannot be determined.

This changed in 2000 with the passing of the Commodity Futures

Modernization Act of 2000, where the Commodity Futures Trading

Commission and the U.S. Securities and Exchange Commission agreed to

oversee and regulate the trading of single stock futures jointly.

It was until 2002 when the first two single stock futures exchange started

trading, one of which has closed down, with OneChicago Exchange still

active today.


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DIFFERENT FROM STOCK OPTIONS

In stock options, the option buyer has the right and not the obligation, to

buy or sell the underlying share. In case of stock futures, both the buyer

and seller are obliged to buy/sell the underlying share.

Risk-return profile is symmetric in case of single stock futures whereas in

case of stock options payoff is asymmetric.

Also, the price of stock futures is affected mainly by the prices of the

underlying stock whereas in case of stock options, volatility of the

underlying stock affects the price along with the prices of the underlying

stock.

Futures and stock options are the two most widely publicized leveraged

derivative instruments in the world today. In fact, futures and options are

the two most widely used hedging instrument in the world as well.

This have inevitably led many investors into thinking that futures and stock

options are the same thing. In fact, there have been laymen investors

referring to both instruments collectively as "Options Futures". Nothing can

be further from the truth.

Futures and options are two different things and a future trading really has

nothing to do with options trading. Futures and options serve different

needs in the capital market and will forever be important elements on their


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own in every well diversified portfolio. Even though futures and options are

two different things, even since the invention of options on futures, that is,

options with futures as their underlying asset, this distinction has been

greatly blurred and made it all the more confusing for beginners to futures

and options trading.


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OPPORTUNITIES OFFERED BY STOCK FUTURES

(1) Stock futures are used for hedging the risk arising out of investment

in cash segment of the stock exchange.

(II) Speculation gains (by taking the risk of speculative loss) can be

made.

(III) Arbitrage gain can be made by combing the futures market

transactions with cash market transactions or options.

Stock futures offer a variety of usage to the investors. Some of the key

usages are mentioned below:

Investors can take long term view on the underlying stock using stock

futures.

Stock futures offer high leverage. This means that one can take large

position with less capital. For example, paying 20% initial margin one can

take position for 100 i.e. 5 times the cash outflow.

Futures may look overpriced or under priced compared to the spot and can

offer opportunities to arbitrage or earn risk-less profit. Single stock futures

offer arbitrage opportunity between stock futures and the underlying cash


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market. It also provides arbitrage opportunity between synthetic futures

(created through options) and single stock futures.

When used efficiently, single-stock futures can be an effective risk

management tool. For instance, an investor with position in cash segment

can minimize either market risk or price risk of the underlying stock by

taking reverse position in an appropriate futures contract.


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STOCK FUTURES TRADING

Yes, a single stock future trading is a leveraged speculation on the price of

the underlying stock.

The short benefits when the price of the underlying stock falls because the

single stock futures contract allows the short to sell the underlying stock at

a higher price. The long benefits when the price of the underlying stock

rises because the single stock futures contract allows the long to buy the

underlying stock at a lower price. Clearly, one would take the short side

when speculating on a drop in the price of the underlying stock while one

would take the long side when speculating on a rise in the price of the

underlying stock.

No matter which side of the single stock futures trade you take, an initial

margin is payable to the futures exchange for entering into the futurestrading contract. Yes, this is unlike options trading where the short actually

receive payment for the options contract that is sold. In futures trading, both

the short and the long pays an initial margin for participating in the trade.

Even though the transaction for the underlying stock only take place upon

maturity of the single stock futures contract, profits and losses incurred by

the contracts are actually settled daily. This is a risk control measure set in

place by the Clearing Houses in order to ensure that participants in the

futures contract are able to fulfil their obligations upon maturity of the

futures contract. This is where the risk of trading single stock futures lie. If


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the stock should move against your favor (upwards when you are short or

downwards when you are long), losses for the day is deducted from the

initial margin that you deposited when putting on the position. When that

initial margin goes down to a certain level, you receive a margin call to top

up the deposit to the initial margin level otherwise your position is closed in

what is known as a "forced liquidation" where the broker closes your

position. As such, short term volatility can be extremely dangerous if a

single stock futures position is not backed up by a significant fund ready for

margin calls.

Conversely, if the stock moves in your favor (upwards when you are long or

downwards when you are short), profits for the day are credited to your

account, increasing the deposit that you made as initial margin. Your initial

margin will continue building up on a daily basis as long as the stock

continues to move in your favor, creating a base of profits acting as buffer

should the stock move against you temporarily. This is why good entry

points in single stock futures trading is so important. It can be critical for the

stock to move in your favor during the first few days of putting on the

position so that a good profit base is formed to absorb losses when the

stock moves temporarily against your favor.
http://www.futurestradingpedia.com/margin_call.htmhttp://www.futurestradingpedia.com/margin_call.htm


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MARKET OUTCOME

1. In India derivatives are traded only on two exchanges.

2. The details of trades on these exchanged during 2002-03 are presented in the

table below.

3. The total exchange traded derivatives witnessed a volume of Rs. 4423333

million during the current year as against Rs. 1038480 million during the

preceding year.

4. While NSE accounted for about 99.4%of total turnover, BSE accounted for

less than 1%. It is believed that India is the second largest market in the world

for stock future


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PARTIES IN SINGLE STOCK FUTURES TRANSACTIONS

Even though a futures transaction is theoretically an agreement between a

buyer and a seller, there are really 3 parties involved in every Single Stock

Futures transaction; the long, the short and the clearing house.

Single Stock Futures are guaranteed contracts. This means that both buyer

and seller are guaranteed their "winnings" and there is no risk of default.This guarantee against default is made possible by the clearing house. The

clearing house is the organization that all single stock futures traders are

really trading with. The clearing house puts itself in the middle of each

single stock futures transaction and obligates itself to the fulfillment of all

futures contracts. This provides the performance guarantee that ensures

liquidity in the futures market.

When you go long or short on a single stock futures contract, the clearing

house creates one new futures contract just for you. There really isn't a

short side selling that contract to you. You are really trading with the

clearing house. The clearing house then deposits your "winnings" or

deducts your "losses" on a daily basis through the mark to market process.

When you decide to close the position, the clearinghouse offsets your

position with an equal and opposite transaction from another party and

when you hold to maturity, the clearing house randomly selects another

single stock futures trader with an opposite transaction to deliver the stocks

or buy your stocks.
http://www.futurestradingpedia.com/offset_futures.htmhttp://www.futurestradingpedia.com/offset_futures.htm


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BENEFITS OF TRADING SINGLE STOCK FUTURES

The main benefit of trading Single Stock Futures is definitely leverage. The

ability to do more with the same amount of money. Single stock futures

allow you to control the same amount of stock with only 20% of the price as

we have discussed above. Apart from being a leverage instrument, single

stock futures can also be hedging instruments for stocks or options

positions. By taking a short side on a portfolio of stocks, you effectively

nullify any directional risk and this can be useful when stocks are expectedto take a short term hit. Single stock futures can also be shorted to hedge

against a call options position or longed to hedge against a put options

position.


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Another benefit of buying Single Stock Futures rather than buying the

underlying stock itself is that buying Single Stock Futures allows you to

keep the remainder of the cash, which would otherwise have been invested

if you had bought the underlying stock itself, in the bonds markets to earn a

risk free rate of return! When you buy stock, your cash can no longer

generate a risk free rate of return and that loss on interest is your

opportunity cost right from the start. However, if you had bought Single

Stock Futures instead, you would have been able to invest the remaining

80% (assuming a 20% initial margin requirement) at the risk free rate of

return and thus reduce your opportunity cost. However, this benefit is a

concern mainly for investors investing very big funds. For the common

retail futures traders, this is not too much of a concern.


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WHERE ARE SINGLE STOCK FUTURES TRADED?

- SINGLE STOCK FUTURES MARKETS

Single Stock Futures are traded in many countries such as USA, Australia,

Canada, Finland, Hong Kong, Spain, Sweden and UK.

In the USA, Single Stock Futures are traded in the USA through an

electronic marketplace known as , One Chicago LLC. Several other

exchanges such as AMEX are also looking to participate in electronic

trading of Single Stock Futures (SSF) trading.

In order to trade Single Stock Futures, all you have to do is open an online

trading account with any of the Online Futures Trading Brokers and they

will fill your orders in the respective marketplace for you. It's that simple.

Most of these brokers would also support options trading because options

is an important hedge for futures.
http://www.onechicago.com/http://www.optiontradingpedia.com/http://www.optiontradingpedia.com/http://www.onechicago.com/


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RISKS OF SINGLE STOCK FUTURES

The single most significant risk of trading single stock futures is that fact

that you can lose more than the money you initially started the trade with.

If you are long a single stock futures position and the stock drops

drastically in a single day, you could lose enough in one day to warrant a

margin call and if you don't have enough money to fulfill the margin call,

your position would not only be forcefully closed but you would also end up

owing money to your broker.

This is how many multi-billion dollar companies collasped overnight trading

futures. As such, careful risk management in terms of leverage and cash

reserve needs to be planned out when trading single stock futures.


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EFFECT OF INTRODUCTION OF INDEX FUTURES ON STOCK MARKET

VOLATILITY: THE INDIAN EVIDENCE

The Indian capital market has witnessed a major transformation and structural

change during the past one decade or so as a result of on going financial sector

reforms initiated by the Government of India since 1991 in the wake of policies of

liberalization and globalization. The major objectives of these reforms have been to

improve market efficiency, enhancing transparency, checking unfair trade practices,

and bringing the Indian capital market up to international standards. As a result of the

reforms several changes have also taken place in the operations of the secondary

markets such as automated on-line trading in exchanges enabling trading terminals of

the National Stock Exchange (NSE) and Bombay Stock Exchange (BSE) to be

available across the country and making geographical location of an exchange

irrelevant; reduction in the settlement period, opening of the stock markets to foreign

portfolio investors etc. In addition to these developments, India is perhaps one of the

real emerging markets in South Asian region that has introduced derivative products

on two of its principal existing exchanges viz; BSE and NSE in June 2000 to provide

tools for risk management to investors. There had, however, been a considerable

debate on the question of whether derivatives should be introduced in India or not.

The L.C. Gupta Committee on Derivatives, which examined the whole issue in

details, had recommended in December 1997 the introduction of stock index futures

in the first place (1). The preparation of regulatory framework for the operations of the

index futures contracts took another two and a half year more as it required not only


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an amendment in the Securities Contracts(Regulation) Act, 1956 but also the

specification of the regulations for such contracts. Finally, the Indian capital market

saw the launching of index futures on June 9, 2000 on BSE and on June 12, 2000 on

the NSE. A year later options on index were also introduced for trading on these

exchanges. Later, stock options on individual stocks were launched in July 2001.

The latest product to enter in to the derivative segment on these exchanges is

contracts on stock futures in November 2001. Thus, with the launch of stock futures,

the basic range of equity derivative products in India seems to be complete.

Despite the existence of a well-developed stock market for over a hundred years,

trading on derivative contracts in India (index futures) started only in June 2000. It is

but natural that the market players took time to understand the intricacies involved in

the operations of these new instruments. This is clearly reflected in the growth of

business in the index futures contracts during the period June 2000 to June 2002.

The growth can at the best be said to be modest not only in terms of the number of

contracts involved but also in terms of value of such contracts.

As far as developed capital markets are concerned, a number of in-depth studies

have been carried out to examine various issues relating to financial derivatives. In

recent years, some attempts have also been made to study various aspects of index

futures relating to emerging markets. Since the introduction of index futures in India is

are cent phenomenon, there has hardly been any attempt to examine the impact of

their introduction on the underlying stock market volatility.


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OTHER RECOMMENDATION

From the purely regulatory angle, a separate exchange for futures trading seems to

be a neater arrangement. However, considering the constraints in infrastructure

facilities , the existing stock exchanges having cash trading may also be permitted to

trade derivatives provided they meet the minimum eligibility conditions as indicated

below:

1. The trading should take place through an online screen based trading system

which also has a disaster recovery site. The per half hour capacity of the computers

and the network should be at least 4 to 5 times of the anticipated peak load in any half

hour or of the actual peak load seen in any half hour during the preceding six months.

This shall be reviewed from time to time on the basis of experience.

2. The clearing of the derivatives market should be done by an independent clearing

corporation, which satisfies the conditions listed.

3. The exchange must have an online surveillance capacity which moniters positions,

prices and volumes in real time so as to deter market manipulation. Price and position

limits should be used for improving market quality.

4. Information about trades, quantities and quotes should be disseminated by the

exchange in real time over at least two information vending networks which are

accessible to investors in the country.


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5. The exchange should have at least 50 members to start derivatives trading.

6. If derivatives trading is to take place at an existing cash market, it should be done in

a separate segment with a separate membership i.e., all members of the existing

cash market would not automatically become members of the derivatives market.

7. The derivatives market should have a separate governing council which shall not

have representation of trading/clearing members of the derivatives Exchange beyond

whatever percentage SEBI may prescribe after reviewing the working of the present

governance system of exchanges.

8. The Chairman of the Governing Council of the Derivative Division/Exchange shall

be a member of the Governing Council, if the chairman is a Broker/dealer, then, he

shall not carry on any broking or dealing business on any Exchange during his tenure

as Chairman.

9. The exchange should have arbitration and investor grievances redressal

mechanism operative from all the four areas/regions of the country.

10. The exchange should have an adequate inspection capability.

11. No trading/clearing member should be allowed simultaneously to be on the

governing council of both the derivatives market and the cash market.

12. If already existing, the exchange should have a satisfactory record of monitoring

its members, handling investor complaints and preventing irregularities in trading


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STANDARDIZATION

Futures contractsensure their liquidity by being highly standardized,

usually by specifying:

1. Theunderlyingasset or instrument. This could be anything from a

barrel of crude oil to a short term interest rate.

2. The type of settlement, either cash settlement or physical settlement.

3. The amountand units of the underlying asset per contract. This can

be the notional amount of bonds, a fixed number of barrels of oil,

units of foreign currency, the notional amount of the deposit over

which the short term interest rate is traded, etc.

4. The currency in which the futures contract is quoted.

5. The gradeof the deliverable. In the case of bonds, this specifies

which bonds can be delivered. In the case of physical commodities,

this specifies not only the quality of the underlying goods but also the

manner and location of delivery. For example, the NYMEX Light

Sweet Crude Oil contract specifies the acceptable sulphur content

and API specific gravity, as well as the pricing point -- the location

where delivery must be made.

6. The delivery month

7. The last trading date.

8. Other details such as the commodity tick, the minimum permissible

price fluctuation.
http://en.wikipedia.org/wiki/Market_liquidityhttp://en.wikipedia.org/wiki/Underlyinghttp://en.wikipedia.org/wiki/Underlyinghttp://en.wikipedia.org/wiki/Underlyinghttp://en.wikipedia.org/wiki/Crude_oilhttp://en.wikipedia.org/wiki/Underlyinghttp://en.wikipedia.org/wiki/Notional_amounthttp://en.wikipedia.org/wiki/Interest_ratehttp://en.wikipedia.org/wiki/Currencyhttp://en.wikipedia.org/wiki/Commoditieshttp://en.wikipedia.org/wiki/Pricing_pointhttp://en.wikipedia.org/wiki/Delivery_monthhttp://en.wikipedia.org/wiki/Commodity_tickhttp://en.wikipedia.org/wiki/Commodity_tickhttp://en.wikipedia.org/wiki/Delivery_monthhttp://en.wikipedia.org/wiki/Pricing_pointhttp://en.wikipedia.org/wiki/Commoditieshttp://en.wikipedia.org/wiki/Currencyhttp://en.wikipedia.org/wiki/Interest_ratehttp://en.wikipedia.org/wiki/Notional_amounthttp://en.wikipedia.org/wiki/Underlyinghttp://en.wikipedia.org/wiki/Crude_oilhttp://en.wikipedia.org/wiki/Underlyinghttp://en.wikipedia.org/wiki/Market_liquidity


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MARGIN

To minimize credit risk to the exchange, traders must post a margin or a

performance bond, typically 5%-15% of the contract's value.

To minimize counterparty risk to traders, trades executed on regulated

futures exchanges are guaranteed by a clearing house. The clearing house

becomes the buyer to each seller, and the seller to each buyer, so that in

the event of a counterparty default the clearer assumes the risk of loss.

This enables traders to transact without performing due diligence on their

counterparty.

Margin requirements are waived or reduced in some cases for hedgers

who have physical ownership of the covered commodity or spread traders

who have offsetting contracts balancing the position.

Clearing margin are financial safeguards to ensure that companies or

corporations perform on their customers' open futures and options

contracts. Clearing margins are distinct from customer margins that

individual buyers and sellers of futures and options contracts are required

to deposit with brokers.

Customer margin Within the futures industry, financial guarantees

required of both buyers and sellers of futures contracts and sellers of

options contracts to ensure fulfillment of contract obligations. Futures

Commission Merchants are responsible for overseeing customer margin
http://en.wikipedia.org/wiki/Credit_riskhttp://en.wikipedia.org/wiki/Margin_%28finance%29http://en.wikipedia.org/wiki/Performance_bondhttp://en.wikipedia.org/wiki/Counterparty_riskhttp://en.wikipedia.org/wiki/Due_diligencehttp://en.wikipedia.org/wiki/Hedge_%28finance%29http://en.wikipedia.org/wiki/Spread_traderhttp://en.wikipedia.org/wiki/Spread_traderhttp://en.wikipedia.org/wiki/Hedge_%28finance%29http://en.wikipedia.org/wiki/Due_diligencehttp://en.wikipedia.org/wiki/Counterparty_riskhttp://en.wikipedia.org/wiki/Performance_bondhttp://en.wikipedia.org/wiki/Margin_%28finance%29http://en.wikipedia.org/wiki/Credit_risk


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accounts. Margins are determined on the basis of market risk and contract

value. Also referred to as performance bond margin.

Initial margin is the equity required to initiate a futures position. This is a

type of performance bond. The maximum exposure is not limited to the

amount of the initial margin; however the initial margin requirement is

calculated based on the maximum estimated change in contract value

within a trading day. Initial margin is set by the exchange.

If a position involves an exchange-traded product, the amount or

percentage of initial margin is set by the exchange concerned.

In case of loss or if the value of the initial margin is being eroded, the

broker will make a margin call in order to restore the amount of initial

margin available. Often referred to as variation margin, margin called for

this reason is usually done on a daily basis, however, in times of high

volatility a broker can make a margin call or calls intra-day.

Calls for margin are usually expected to be paid and received on the same

day. If not, the broker has the right to close sufficient positions to meet the

amount called by way of margin. After the position is closed-out the client is

liable for any resulting deficit in the clients account.

Some U.S. exchanges also use the term maintenance margin, which in

effect defines by how much the value of the initial margin can reducebefore a margin call is made. However, most non-US brokers only use the

term initial margin and variation margin.


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The Initial Margin requirement is established by the Futures exchange, in

contrast to other securities Initial Margin (which is set by the Federal

Reserve in the U.S. Markets).

A futures account is marked to market daily. If the margin drops below the

margin maintenance requirement established by the exchange listing the

futures, a margin call will be issued to bring the account back up to the

required level.

Maintenance margin A set minimum margin per outstanding futures

contract that a customer must maintain in his margin account.

Margin-equity ratio is a term used by speculators, representing the

amount of their trading capital that is being held as margin at any particular

time. The low margin requirements of futures results in substantial leverage

of the investment. However, the exchanges require a minimum amount that

varies depending on the contract and the trader. The broker may set the

requirement higher, but may not set it lower. A trader, of course, can set it

above that, if he does not want to be subject to margin calls.

Performance bond margin The amount of money deposited by both a

buyer and seller of a futures contract or an options seller to ensure

performance of the term of the contract. Margin in commodities is not a

payment of equity or down payment on the commodity itself, but rather it is

a security deposit.

Return on margin (ROM) is often used to judge performance because it

represents the gain or loss compared to the exchanges perceived risk as

reflected in required margin. ROM may be calculated (realized return) /
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(initial margin). The Annualized ROM is equal to (ROM+1)(year/trade_duration)-1.

For example if a trader earns 10% on margin in two months, that would be

about 77% annualized.

FUTURES CONTRACTS

Contracts

There are many different kinds of futures contracts, reflecting the many

different kinds of "tradable" assets about which the contract may be based

such as commodities, securities (such as single-stock futures), currencies

or intangibles such as interest rates and indexes. For information on futures

markets in specific underlying commodity markets, follow the links.

For a list of tradable commodities futures contracts, see List of traded

commodities. See also the futures exchange article.

Foreign exchange market

Money market Bond market

Equity market

Soft Commodities market
http://en.wikipedia.org/wiki/Single-stock_futureshttp://en.wikipedia.org/wiki/Commodity_marketshttp://en.wikipedia.org/wiki/List_of_traded_commoditieshttp://en.wikipedia.org/wiki/List_of_traded_commoditieshttp://en.wikipedia.org/wiki/Futures_exchangehttp://en.wikipedia.org/wiki/Foreign_exchange_markethttp://en.wikipedia.org/wiki/Money_markethttp://en.wikipedia.org/wiki/Bond_markethttp://en.wikipedia.org/wiki/Equity_derivative#Equity_futures.2C_options_and_swapshttp://en.wikipedia.org/wiki/Soft_Commodities_markethttp://en.wikipedia.org/wiki/Soft_Commodities_markethttp://en.wikipedia.org/wiki/Equity_derivative#Equity_futures.2C_options_and_swapshttp://en.wikipedia.org/wiki/Bond_markethttp://en.wikipedia.org/wiki/Money_markethttp://en.wikipedia.org/wiki/Foreign_exchange_markethttp://en.wikipedia.org/wiki/Futures_exchangehttp://en.wikipedia.org/wiki/List_of_traded_commoditieshttp://en.wikipedia.org/wiki/List_of_traded_commoditieshttp://en.wikipedia.org/wiki/Commodity_marketshttp://en.wikipedia.org/wiki/Single-stock_futures


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Trading on commodities began in Japan in the 18th century with the trading

of rice and silk, and similarly in Holland with tulip bulbs. Trading in the US

began in the mid 19th century, when central grain markets were

established and a marketplace was created for farmers to bring their

commodities and sell them either for immediate delivery (also called spot or

cash market) or for forward delivery.

These forward contracts were private contracts between buyers and sellers

and became the forerunner to today's exchange-traded futures contracts.

Although contract trading began with traditional commodities such as

grains, meat and livestock, exchange trading has expanded to include

metals, energy, currency and currency indexes, equities and equity

indexes, government interest rates and private interest rates.

WHO TRADES FUTURES?

Futures traders are traditionally placed in one of two groups: hedgers, who

have an interest in the underlying asset (which could include an intangiblesuch as an index or interest rate) and are seeking to hedge outthe risk of

price changes; and speculators, who seek to make a profit by predicting

market moves and opening a derivative contract related to the asset "on

paper", while they have no practical use for or intent to actually take or
http://en.wikipedia.org/wiki/Soft_Commodities_markethttp://en.wikipedia.org/wiki/Commodityhttp://en.wikipedia.org/wiki/Hedge_%28finance%29http://en.wikipedia.org/wiki/Speculatorhttp://en.wikipedia.org/wiki/Derivative_%28finance%29http://en.wikipedia.org/wiki/Derivative_%28finance%29http://en.wikipedia.org/wiki/Speculatorhttp://en.wikipedia.org/wiki/Hedge_%28finance%29http://en.wikipedia.org/wiki/Commodity


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make delivery of the underlying asset. In other words, the investor is

seeking exposure to the asset in a long futures or the opposite effect via a

short futures contract.

Hedgers

Hedgers typically include producers and consumers of a commodity or the

owner of an asset or assets subject to certain influences such as an

interest rate.

For example, in traditional commodity markets, farmers often sell futures

contracts for the crops and livestock they produce to guarantee a certain

price, making it easier for them to plan. Similarly, livestock producers often

purchase futures to cover their feed costs, so that they can plan on a fixed

cost for feed. In modern (financial) markets, "producers" of interest rate

swaps or equity derivative products will use financial futures or equity index

futures to reduce or remove the risk on the swap.

Speculators

Speculators typically fall into three categories: position traders, day traders,

and swing traders (swing trading), though many hybrid types and unique

styles exist. In general position traders hold positions for the long term

(months to years), day traders (or active traders) enter multiple trades

during the day and will have exited all positions by market close, and swingtraders aim to buy or sell at the bottom or top of price swings.[7]With many

investors pouring into the futures markets in recent years controversy has

risen about whether speculators are responsible for increased volatility in

commodities like oil, and experts are divided on the matter.[8]
http://en.wikipedia.org/wiki/Consumerhttp://en.wikipedia.org/wiki/Commodity_markethttp://en.wikipedia.org/wiki/Farmerhttp://en.wikipedia.org/wiki/Interest_rate_swapshttp://en.wikipedia.org/wiki/Interest_rate_swapshttp://en.wikipedia.org/wiki/Equity_derivativehttp://en.wikipedia.org/wiki/Swap_%28finance%29http://en.wikipedia.org/wiki/Day_tradershttp://en.wikipedia.org/wiki/Swing_tradinghttp://en.wikipedia.org/wiki/Futures_contracts#cite_note-6http://en.wikipedia.org/wiki/Futures_contracts#cite_note-6http://en.wikipedia.org/wiki/Futures_contracts#cite_note-6http://en.wikipedia.org/wiki/Futures_contracts#cite_note-7http://en.wikipedia.org/wiki/Futures_contracts#cite_note-7http://en.wikipedia.org/wiki/Futures_contracts#cite_note-7http://en.wikipedia.org/wiki/Futures_contracts#cite_note-7http://en.wikipedia.org/wiki/Futures_contracts#cite_note-6http://en.wikipedia.org/wiki/Swing_tradinghttp://en.wikipedia.org/wiki/Day_tradershttp://en.wikipedia.org/wiki/Swap_%28finance%29http://en.wikipedia.org/wiki/Equity_derivativehttp://en.wikipedia.org/wiki/Interest_rate_swapshttp://en.wikipedia.org/wiki/Interest_rate_swapshttp://en.wikipedia.org/wiki/Farmerhttp://en.wikipedia.org/wiki/Commodity_markethttp://en.wikipedia.org/wiki/Consumer


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An example that has both hedge and speculative notions involves a mutual

fund or separately managed account whose investment objective is to track

the performance of a stock index such as the S&P 500 stock index. The

Portfolio manager often "equitizes" cash inflows in an easy and cost

effective manner by investing in (opening long) S&P 500 stock index

futures. This gains the portfolio exposure to the index which is consistent

with the fund or account investment objective without having to buy an

appropriate proportion of each of the individual 500 stocks just yet. This

also preserves balanced diversification, maintains a higher degree of the

percent of assets invested in the market and helps reduce tracking error in

the performance of the fund/account. When it is economically feasible (an

efficient amount of shares of every individual position within the fund or

account can be purchased), the portfolio manager can close the contract

and make purchases of each individual stock.

The social utility of futures markets is considered to be mainly in the

transfer of risk, and increased liquidity between traders with different riskand time preferences, from a hedger to a speculator.
http://en.wikipedia.org/wiki/Futures_contracts#cite_note-7http://en.wikipedia.org/wiki/Mutual_fundhttp://en.wikipedia.org/wiki/Mutual_fundhttp://en.wikipedia.org/wiki/Separately_managed_accounthttp://en.wikipedia.org/wiki/Portfolio_managerhttp://en.wikipedia.org/wiki/Tracking_errorhttp://en.wikipedia.org/wiki/Riskhttp://en.wikipedia.org/wiki/Time_preferencehttp://en.wikipedia.org/wiki/Time_preferencehttp://en.wikipedia.org/wiki/Riskhttp://en.wikipedia.org/wiki/Tracking_errorhttp://en.wikipedia.org/wiki/Portfolio_managerhttp://en.wikipedia.org/wiki/Separately_managed_accounthttp://en.wikipedia.org/wiki/Mutual_fundhttp://en.wikipedia.org/wiki/Mutual_fund


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CONCLUSION

Trading in the futures market is risky. It can be quite complicated,

especially, for those who are still new to investing. While it is not for

everybody, the futures market can be suitable for a wide range of people.

For those who have already started investing in stocks or bonds, it would

be best to talk to your broker if you are interested in futures trading.

Here are the key points covered in this tutorial:

1. The futures market is a global marketplace.

2. The futures a market is all about trading futures contracts instead of

the physical commodities involved.

3. In the contract, it will state the price per unit, type, value, quality and

quantity of the commodity involved, as well as the month the contract

expires.

4. There are basically two players in the futures market: hedgers and

speculators. The hedger will, as much as possible, try to minimize

risk from the rising or declining prices. Speculators are the risk-

takers, who will try to profit from the rising or declining prices.

5. In the US, the futures markets are regulated by the CFTC and the

NFA.

6. Depending on the profits or losses incurred, a futures accounts can

be credited or debited on a day-to-day basis.

7. The futures market is characterized as being greatly leveraged due

to its margins. Leverage works both ways in that it can get you huge


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profits or huge losses (even greater than your initial investment) on

your futures investment.

8. There are 3 main strategies in futures trading: Going Long, Going

Short and Spreads.

9. Once you decide to trade in the futures market, there are 3

approaches used to participate in it: Managed Account, Commodity

Pool and Do-It-Yourself.

BIBLIOGRAPHY

1. WWW.GOOGLE.COM

2. WWW.WIKIPEDIA.COM

3. WWW.NSEINDIA.COM

4. WWW.DERIVATIVEINDIA.COM

5. WWW.FINANCEMONEY.IN
http://www.google.com/http://www.wikipedia.com/http://www.nseindia.com/http://www.derivativeindia.com/http://www.financemoney.in/http://www.financemoney.in/http://www.derivativeindia.com/http://www.nseindia.com/http://www.wikipedia.com/http://www.google.com/

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Stock Futures Tybfm Sem - 5