Introduction to Derivatives: Futures and Options Explained

Purchasing or selling shares at a specific price with a financial contract between different parties  before expiration is referred to as the options contract. Futures and options are two distinct financial derivatives investors employ to hedge risk or speculate on market dynamics.

All options and futures allow investors to gain an investment at a fixed price on a particular date. However, the rules on options and futures contracts differ widely regarding their risks to investors. To understand the difference between futures and options, read the article below.

What is Future and Options Trading?

Options and futures contracts are two types of derivative contracts in the stock market. Investors purchase and sell underlying financial instruments at predetermined prices.

Future contracts in the derivative market are agreements between two parties where the buyer agrees to buy several stocks from the seller in advance at a price fixed shortly after that date. 

Whereas the option in the derivative market is a contract between two parties offering the buyer the right but not the compulsion to buy or sell the asset at a future date and price. Traders will gain profits in F&O futures and options if they have to sell positions, as the cost of these contracts is rising. On the other hand, if traders have a selling position on the market, it is profitable for them when prices fall. 

Traders must keep a particular percentage of the future value of F&O stocks as a margin with their broker when trading in futures and options on the equity market. Doing so contributes to maintaining the trader’s position as a sell or buy.

Differences Between Futures and Options

As both terms are generally used simultaneously and share a few similarities, futures and options are derivative products. The underlying assets, like stocks, exchange-traded funds, commodities, and indices, drive their value. Let’s see what differences there are in futures and options.

1. Rights or obligations

Pending contracts are commitments or obligations to conclude the squared-off transaction, subject to contract requirements on a specific date. Meanwhile, traders have a right to exercise a contract at a specific time in the case of option contracts. They can apply for this contract, but they are not required.

2. Advance payment requirements

Traders are not obliged to provide the brokers with an entry fee for futures contracts. To exploit the profits or losses in trading, they need to maintain a margin that is some percentage of the future value of agreements. On the other hand, traders must pay a premium to buy options in the case of options contracts.

3. Contract Date

Traders must implement the agreement only at the date fixed for the contract in their subsequent trading. Unlike futures, where an option contract is concerned, traders can apply their rights at any time up to the date set in the agreement. However, according to the type of funding security involved, various rules are in place for each financial market.

4. The risks associated with trading in F&O

Regarding futures, regardless of price movements and willingness to accept payment from a financing instrument, traders must carry out their contracts. There is a chance that prices for the item can be lower when it is sold than when the trader purchased it; this also increases the risk of suffering a loss. However, when it comes to trading options, traders can sell or buy the derivative whenever it makes sense and is profitable. 

Conclusion

Futures and options are derivative products traded on the stock market. They are derivatives because their value is derived from the original assets. If two parties agree to buy or sell the underlying asset at an agreed price on a fixed date, they enter into a derivative contract. To invest and start future and option trading, use an online trading app like BlinkX. With this app, you can also open a hassle-free demat and trading account for safe, secure, and profitable trading.