How to trade Futures?

Investor trade shares; they also come across a requirement of how to trade Futures? This article has the objective of giving the investors a brief understanding of financial derivatives called Futures.

Futures are a contract (obligation) of a trader by which he lock-in the price of a share (say) at which he wishes to buy-sell it in future. This protects the trader form any price changes, how? Lets see, suppose a persons Fixed Deposit is going to get matured in next three months which will give him Rs 450,000. He wants to use this fund buy shares if ITC which is traded at say Rs 200. A normal investor would wait for the Fixed Deposit to mature and then take steps to buy the shares of ITC online. But it may happen that in next three months the price of ITC goes up to say Rs 225. In such cases when you actually do not have your money in your hand but you can still buy Futures. This is what make Futures a great investment option that investors and traders can use to their advantage.

How to trade Futures – Long Position

Futures are contracts that tell investors on how to trade Futures to ones advantage. An investor may enter into a contract which enables the investors to buy ITC shares three months from today at Rs 205. The contract in itself costs nothing to the investors. Suppose after three months the market price of ITC shoots up to 225. A investors who had done Futures will be able to buy the same shares at just Rs 205, where a normal investor will pay RS 225 for each share. But there is risk, in case the share price of ITC falls to say Rs 190 in next three months, in that case as investor has entered into a contract to buy ITC shares at Rs 205 he will face a loss as compared to normal investors who may buy shares at Rs 190. This type of Future contract is called Long Position.

How to trade Futures – Short Position

Let us see how to trade futures in case of falling stock prices. The above example was for rising stock prices. Suppose one expects that the market price of ITC which currently traded at Rs 200 is expected to fall to Rs 175 in next three months. An Investor decided to buy Futures of ITC which says that the investor would sell ITC at Rs 180 three months from today. Physically all money transaction will happen only after three months. Suppose after three months, the market price of ITC falls to Rs 175, then the investor will be able to buy shares at Rs 175 and sell it at Rs 180. There is a profit of Rs 5 per share. Investor has to pay Rs 175/share and gets back Rs 180/share. But there is risk, in case the share price of ITC does not falls to Rs 175 levels instead they remain at Rs 190 levels then the investor will be able to buy shares at Rs 190 and sell it at Rs 180. There is a loss of Rs 5 per share. Investor has to pay Rs 190/share and gets back only Rs 190/share. This type of Future contract is called Short Position.

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