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by
Vipul Mehta
Financial Derivatives
Derivative – Financial product whose value is derived
from an underlying asset
Underlying asset can be
Commodity – wheat, rice, soya etc.
Stocks – Reliance, HDFC, Raymond etc.
Indices – Nifty, Bank Nifty etc
Other underlying assets and their derivatives
The Index
NIFTY
BSE SENSEX
Other key world indices
S&P 500
DOW JONES INDUSTRIAL AVERAGE (DJIA)
FTSE 100
Index Futures
Index Futures
Nifty Jul Futures
Bank Nifty Jul Futures
Contract specifications
Expiry date
Contract size or Lot size
No of contracts running
Near month, mid month, far month
Order type
Quantity freeze
NSE India Nifty Futures: https://goo.gl/B3P4y2
Positions
Long Position
Short Position
Futures Contracts
Cash settlement v. Physical settlement
At the expiration of the contract, the commitment under the
futures contract is not settled by outright delivery
Margin requirements
Initial Margin (Span Margin)
Exposure Margin
Margin types: https://goo.gl/orhCHe
Margin required for NSE securities: https://goo.gl/NLhehZ
Derivatives trading extension to 1155: https://goo.gl/4qfvkY
Margin MTM Calculation: https://goo.gl/fzChbd
Mark to Market Margin
The following are the prices of NIFTYAUG18FUT for the last 7 days.
Let’s say you purchased one lot of Nifty Futures on 26 Jul at 11200.
Compute the mark-to-market margin you will receive/pay for one lot
of Nifty Futures at the end of each day. If the initial margin required is
Rs 66000, how much would be added/subtracted from your margin
account every day?
Date Close
26-Jul-18 11201.35
27-Jul-18 11306.7
30-Jul-18 11338.5
31-Jul-18 11371.6
01-Aug-18 11374.3
02-Aug-18 11282.3
03-Aug-18 11395.75
Hedging using Index Futures
Long on Stocks, short on Index Futures
Hedging using Other Futures
Similarly Long and Short positions in Futures can be used to
hedge in any financial product
Benefit of Futures Contracts
Hedging
Leverage
Financial Leverage
Cost of Carry
Cost of carry model states that there is a cost associated with
buying/selling futures
Carrying cost includes the cost incurred in holding the underlying
asset till the strike date by the party who is short on futures
Other costs included in carrying cost: Dematerialization charges
and other transaction costs
F=S+C
Theoretical Actual
futures price futures price
August futures 102.5
September futures 101
October futures 100.5
Solve
A factory owner needs 15,000kg of a raw material for his
production due to start after one month. He fears that the
prices might go up. He is prepared to spend Rs 10/kg which
is the current spot price. He does not want to buy the raw
material right now. If one month futures on this raw material
are currently going at Rs 10.10, show his payoff if the spot
price after one month is:
Case I: Rs 18/kg
Case II: Rs 8/kg
Solve
A farmer produces wheat and is expecting produce of
100,000kg to be ready in a month. The spot price is Rs 100
per kg and he fears the prices may come down. The one
month futures on wheat is available at Rs 105. Show his
payoff if the prices after one month turn are following:
Case I: Rs 90/kg
Case II: Rs 110/kg