Page 119 - DCOM510_FINANCIAL_DERIVATIVES

Financial Derivatives

Notes index instead of a physical asset as its underlying asset. Indeed, index futures are one of the most
important financial futures in the world today and opened up the way for futures traders to
trade and profit from the performance of a specific index directly instead of having to trade the
entire basket of asset covered by the index.
The most important of index futures are index futures based on broad market indexes such as the
S&P 500 Futures and the Nikkei 225 futures. These stock index futures allow futures traders to
“Buy the market” or “sell the market” for the first time without having to simultaneously trade
the hundreds of stocks that these indexes cover. In a way, trading index futures is really trading
all the stocks or assets covered by an index in the capital weightage represented in the index. In
fact, there are also mini index futures or simply known as “minis” which allows retail traders to
perform leveraged speculation on their underlying index using very little money.

Example: Index Futures Trading
The S&P500 is at 1125.75 today. Assuming you are bearish on the S&P 500, you could take the
short side of its near term futures contract which is currently the June 2010 contract priced at
1125.8 points. Initial margin requirement for this contract is about $28,000. Assuming you are
short one contract of the June 2010 and S&P500 drops to 1000 points, you make:
1125.75 - 1000 = 125.75 points
125.75 x $250 = $31,437.50

$31,437.50 / $28,000 = 112% profit
The S&P500 dropped by only 11% but you make 112% profit by speculating through the S&P500
index futures. That’s speculating with leverage.

All index futures contracts on NSE futures trading system are coded. Each futures contract has a
separate limit order book. All passive orders are stacked in the system in terms of price-time
priority and trades take place at the passive order price. The best buy order for a given futures
contract will be the order to buy at the index at the highest index level where as the best sell
order will be the order to sell the index at the lowest index level. Futures are very convenient in
constructing a portfolio.

Table 7.1: Trade specifications of Nifty Futures

Underlying asset: S& P CNX Nifty
Exchange of Trading: NSE
Security Descriptor: N FUTIDX NIFTY
Contract size: Permitted lot size is 200 and multiples thereof
Price steps ` 0.05
Price bands: Not applicable
Trading Cycle: Near month
Next Month
Far month
Expiry day: Last Thursday of the month
Settlement basis: Mark of Market and final settlement will be cash
settled on T+1 basis
Settlement Price: Daily settlement price will be closing pricing futures
contracts for the trading day and the final settlement
price shall be the closing value of the underlying index
on the last trading day.

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