Rakesh Deshmukh
/ Categories: Knowledge, General
To trade futures and options effectively, a trader must thoroughly understand F&O concepts and be aware of the associated risks before placing any orders.
Trading futures is always exciting for me, and I’m eager to delve deeper into it. However, I've often been concerned about the substantial capital required for futures contracts. Have you faced this challenge too? What if I told you a secret that could reduce your margin requirement for futures trading by around 50 per cent? Interested? Let’s explore this together, but first, let’s quickly review what futures contracts are.
A futures contract is a standardized agreement between two parties to buy or sell an underlying asset at a set price on a specific future date. In a futures contract, you can either take on the role of a buyer or a seller. If the asset’s price increases, buyers benefit since they purchased at a lower price. Conversely, if the price decreases, sellers profit by selling at a higher price.
Trade With Less Margin
Let’s illustrate this with an example. Suppose you want to trade Nifty futures, and the Nifty contract has a lot size of 25. If the July futures contract is priced at 24,345, the total contract value is Rs 6,08,625. Typically, brokers do not require you to pay the entire contract value upfront. Instead, they offer leverage, requiring only a margin to trade the contract. For this contract, the margin required would be approximately Rs 75,985, which is about 12.5 per cent of the total contract value. If you need even more leverage for trading this futures contract, there’s a way to achieve it with just one additional step.
So, to trade futures contracts with less margin, you simply need to add an option contract to your basket. Let's say you have a bullish view and foresee Nifty will go up in the upcoming days. Then, you need to buy a put option contract of Nifty and then buy a futures contract; this would cost you around Rs 28,590, as shown in the image below.It's up to you what you add ATM, OTM, ITM every option category has its own set of risk and delta variance.
The catch here is that you need to add the options contract first: if you are bullish, then add a Put option contract, and if your view is bearish, then add a Call option contract before adding the futures contract.
One thing you need to keep in mind is that adding At-the-Money (ATM), In-the-Money (ITM), or Out-of-the-Money (OTM) options carries a different set of risks. You need to check the option Greeks before placing the order, especially the delta for your spread, which will eventually tell you how much money you are going to earn based on how many points Nifty moves in your direction or vice versa. Additionally, if you carry this spread, there is a Mark-to-Market (MTM) risk in the future and theta risk in the option contract.
Risk In Futures Trading
In the case of buying Options, your maximum risk is limited to the money you have spent on these options. If your prediction proves completely inaccurate and your options become worthless by the contract's expiration, you may incur a loss equivalent to your initial investment. Contrastingly, with futures contracts, you face unlimited liability. You are obligated to cover daily losses by injecting additional capital through a margin call. Daily losses might compel you to persist in the trade even if the underlying asset moves unfavourably. If most of your investment is in futures contracts and you lack funds to meet margin calls, you might potentially accumulate debt.
Disclaimer: The article is for informational purposes only and not investment advice.
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