How to Do Futures Trading in the Indian Market: A Comprehensive Guide

This article is part 2 of the Futures & Options section of our Stock Market Learning series created by SMJ to help you understand essential concepts of futures trading in the Indian market. Whether you’re new to futures trading or looking to refine your strategy, this guide will walk you through the basics, benefits, risks, and steps to get started. Futures trading is a powerful tool for managing risk and capitalizing on market movements, but it requires a solid understanding to succeed.

Futures trading is an integral part of the derivatives segment in the Indian stock market, offering traders and investors a powerful way to speculate on or hedge against the price movements of assets like stocks, commodities, indices, and currencies.

Unlike traditional stock trading, where you directly buy or sell shares, futures trading involves an agreement—known as a futures contract—to buy or sell an asset at a predetermined price on a specific date in the future.

A futures contract allows investors to bet on whether the price of an asset will rise or fall. If a trader expects the price to increase, they take a long position (buy), while those who anticipate a price decline take a short position (sell).

Unlike options, futures contracts impose a legal obligation on both the buyer and the seller to complete the trade at the agreed-upon terms by the contract’s expiry date.

Futures trading can be complex but offers significant opportunities for those who understand its mechanics. It is commonly used by two types of traders—hedgers and speculators.

Hedgers use futures to protect themselves from price volatility, while speculators seek to profit from price movements without owning the underlying asset. In India, futures contracts can be traded on major exchanges such as the National Stock Exchange and the Bombay Stock Exchange.

This form of trading provides unique benefits, such as leverage, allowing traders to control large positions with relatively small initial investments. Futures trading also carries substantial risk, requiring a thorough understanding of market dynamics and a carefully considered trading strategy.

Also Read: Understanding Futures and Options: Benefits, Risks, and Who Should Invest

What is a Futures Contract?

A futures contract is a legal agreement between two parties—a buyer and a seller—obligating them to trade an underlying asset at a predetermined price on a specified future date. This financial instrument falls under the category of derivatives, meaning its value is derived from the price movements of the underlying asset, such as stocks, commodities, indices, or currencies. The underlying asset’s price fluctuations determine whether the buyer or the seller gains or loses money as the contract approaches its expiry.

In a futures contract –

• The buyer takes a long position, betting that the price of the asset will increase by the time the contract expires. If the asset’s price rises above the agreed-upon price (strike price), the buyer profits.

• The seller takes a short position, anticipating that the asset’s price will decrease. If the asset’s price falls below the strike price, the seller benefits.

• These contracts are unique because both parties are obligated to fulfill the terms of the contract, unlike options trading, where the buyer has the right—but not the obligation—to execute the trade.

Key Features –

1. Predetermined Price and Date –

A futures contract specifies the price at which the asset will be traded and the date by which the transaction must be completed (the expiry date).

2. Standardization –

These contracts are standardized agreements, meaning the contract terms (such as contract size, expiry date, and strike price) are pre-set by the exchange on which they are traded, such as the NSE or BSE.

3. Leverage –

Futures trading allows investors to control large positions with a relatively small initial margin. This use of leverage amplifies both potential gains and losses.

4. Daily Settlement –

Contracts are marked to market daily, meaning gains or losses are settled at the end of each trading day based on the current market price of the underlying asset.

5. Fixed Expiry –

Futures contracts have a set expiry date, after which the contract must be settled. In India, most futures contracts expire on the last Thursday of the month.

Example of How a Futures Contract Works –

Imagine an investor enters a futures contract to buy 100 shares of Company XYZ at ₹500 per share, with the contract expiring in one month. If, by the contract’s expiry, the price of XYZ shares rises to ₹550, the buyer can profit by purchasing at the lower, agreed-upon price of ₹500, earning ₹50 per share (totaling ₹5,000). On the other hand, if the price drops to ₹450, the seller profits by selling at the higher price of ₹500, netting ₹50 per share in profit.

Physical vs. Cash Settlement –

• Physical Settlement – In some futures contracts, such as commodities, the underlying asset is physically delivered upon expiry. For example, in commodity futures, a trader may receive barrels of oil or bushels of wheat.

• Cash Settlement – In most financial futures (like stocks and indices), actual delivery of the underlying asset doesn’t take place. Instead, the difference between the contract price and the market price at expiry is settled in cash.

Also Read: How to Start Options Trading in the Indian Market: A Beginner’s Guide

Types of Futures Traders

In futures trading, there are two main types of traders – Hedgers and Speculators. Each group has distinct objectives and strategies, but both play an essential role in the futures market by contributing to liquidity and helping establish prices for underlying assets.

Hedgers – Managing Risk

Hedgers are primarily businesses or investors who use futures contracts to protect themselves from the risk of price fluctuations. Their goal is not to make speculative profits but to lock in prices to minimize uncertainty.

Hedging is commonly used in industries where prices of raw materials, commodities, or financial instruments are highly volatile. Hedgers try to secure a future price for their assets, effectively insulating themselves from adverse market movements.

A hedger takes a futures position opposite to their current exposure in the market. If they expect the price of an asset to fall, they will sell futures (short position) to protect their asset’s value. Conversely, if they expect prices to rise, they might buy futures (long position) to lock in a favorable price.

Example –

A commodity producer, such as a wheat farmer, may be concerned about a potential drop in wheat prices before harvest. To protect themselves, the farmer sells wheat futures at the current market price, locking in the sale price. If wheat prices fall by the time of harvest, the farmer benefits from selling the wheat at the higher futures contract price. This reduces the financial impact of a market downturn, even though the physical commodity is sold at a lower spot price.

Common Hedgers

• Farmers or commodity producers (wheat, coffee, crude oil).

• Airlines or transportation companies (hedging fuel costs).

• Exporters and importers (hedging currency exchange rates).

• Investors holding large portfolios (hedging against stock market declines).

Hedgers’ Goal –

Hedgers aim for price stability and predictability rather than speculative gains. They use futures to protect their investments or costs against adverse market movements, securing profits or managing expenses more efficiently.

Speculators – Profiting from Market Movements

Speculators trade futures with the primary goal of profiting from price movements in the market. They do not have an underlying exposure to hedge; instead, they seek to capitalize on short-term price fluctuations of stocks, commodities, indices, or currencies. Speculators play an essential role in the futures market by providing liquidity, which helps hedgers execute their trades more efficiently.

Speculators take long or short positions based on their predictions about future price movements. They buy futures contracts (go long) if they expect the price to rise, or sell contracts (go short) if they anticipate a price drop. Speculators usually do not intend to hold the contract until expiration or receive delivery of the asset; instead, they aim to sell the contract before expiry for a profit.

Example –

A speculator believes that crude oil prices will rise in the coming months due to an anticipated increase in demand. They buy crude oil futures at ₹5,000 per barrel. If the price of crude oil rises to ₹5,500 before the contract expires, the speculator can sell the futures contract, profiting ₹500 per barrel. However, if prices fall, the speculator incurs a loss.

Common Speculators

• Independent traders and retail investors.

• Hedge funds and proprietary trading firms.

• Institutional investors seeking short-term profits.

Speculators’ Goal

Speculators aim to maximize profit by accurately predicting market trends and price movements. They typically have a higher risk tolerance, as the potential for large gains also carries the possibility of significant losses. Successful speculators rely on deep market knowledge, technical analysis, and the ability to act quickly.

Differences Between Hedgers and Speculators

Hedgers	Speculators
Focus on risk management.	Focus on profit from market moves.
Trade to protect against price risk.	Trade to capitalize on price changes.
Often hold futures contracts until expiry.	Rarely hold contracts to expiry—aim for short-term gains.
Lower risk tolerance—seek price stability.	Higher risk tolerance—accept large potential losses for big gains.
Common in commodities and currency markets.	Active in stocks, commodities, and currencies.

How Futures Trading Works

Futures trading involves a contract between two parties—a buyer and a seller—to trade an underlying asset at a predetermined price on a specific future date. This type of trading is a core part of the derivatives market, allowing traders to speculate on price movements or hedge against potential risks. In contrast to traditional stock or commodity purchases, futures contracts legally bind both parties to fulfill their agreement, regardless of market conditions at the time of contract expiration.

Breakdown of how futures trading works, its structure, and its key components

The Structure of a Futures Contract

A futures contract is an agreement to buy or sell an underlying asset—such as stocks, commodities, indices, or currencies—at a fixed price on a specific expiry date. Each contract is standardized by exchanges like the National Stock Exchange (NSE) or the Bombay Stock Exchange (BSE), meaning that details such as contract size, expiration date, and strike price are pre-determined.

Elements of a Futures Contract

• Underlying Asset – The financial instrument or commodity being traded (e.g., stocks, gold, oil, currency).

• Contract Size – The quantity of the asset covered by the futures contract.

• Strike Price – The price agreed upon at which the asset will be bought or sold on the expiry date.

• Expiry Date – The date on which the contract must be settled. In India, futures contracts typically expire on the last Thursday of the month.

• Margin Requirement – The minimum amount of money a trader must deposit to open and maintain a futures position, typically a percentage of the contract’s value.

Buyer’s and Seller’s Obligations

Unlike options trading, where buyers have the choice to exercise the contract, futures trading is obligatory. Both the buyer and the seller are legally bound to honor the contract by the expiry date. Their positions in the market determine their obligations –

• Buyer’s Position (Long) – The buyer takes a long position, betting that the price of the underlying asset will rise before the expiry date. They are obligated to purchase the asset at the agreed price if they hold the contract until expiration.

• Seller’s Position (Short) – The seller takes a short position, speculating that the price of the asset will decline. They are obligated to sell the asset at the agreed price upon contract expiry.

Example –

Suppose an investor enters into a contract to buy 100 shares of Reliance Industries at ₹2,400 per share, with an expiry date one month away. If the price of Reliance rises to ₹2,600 by the expiry date, the buyer profits ₹200 per share, and the seller incurs a loss. However, if the price falls to ₹2,200, the seller benefits by delivering at ₹2,400, while the buyer incurs a loss.

Leverage and Margin in Futures Trading

Futures trading offers the benefit of leverage, meaning that traders can control a large position with a relatively small amount of capital. This is made possible by margin requirements, where traders only need to deposit a percentage of the total contract value. However, while leverage can amplify gains, it can also lead to significant losses if the market moves against the trader’s position.

• Initial Margin – The amount a trader needs to deposit to open a futures position. It is typically 5-10% of the total contract value.

• Maintenance Margin – The minimum account balance a trader must maintain to keep the position open. If the account balance falls below this level, the trader will receive a margin call and must deposit additional funds.

Example –

If you buy a gold futures contract worth ₹10,00,000 and the initial margin is set at 10%, you only need to deposit ₹1,00,000 to open the position. However, if the market moves against you and the value of your position drops, you may need to add more funds to your account to maintain the trade.

Mark-to-Market (MTM) Settlements

Futures contracts are marked to market on a daily basis, meaning that any profits or losses are settled at the end of each trading day. The value of the contract is adjusted to reflect the current market price of the underlying asset, and gains or losses are credited or debited to the trader’s account accordingly.

How Mark-to-Market Works

• At the end of each trading day, the futures contract is revalued based on the current market price.

• If the market moves in favor of the trader (price rises for long positions, falls for short positions), they receive a credit.

• If the market moves against them, their account is debited, and they may face a margin call if the losses are substantial.

Example –

If you hold a long position in crude oil futures, and the price of oil increases by ₹50 per barrel, your account will be credited based on this daily price movement. If oil prices fall, your account will be debited.

Settlement of Futures Contracts

• Physical Settlement – In cases involving commodities, like oil or wheat, the contract may require the physical delivery of the underlying asset upon expiration. The buyer will receive the commodity, and the seller will deliver it.

• Cash Settlement – For financial futures (stocks, indices, etc.), actual delivery of the asset usually does not occur. Instead, the contract is settled in cash based on the difference between the contract price and the market price on the expiry date.

Example –

For a stock index futures contract, if you agreed to buy an index at ₹15,000, but the index closes at ₹15,500 on the expiry date, the contract is settled in cash, and you receive the ₹500 difference multiplied by the contract size.

Role of SEBI

The Securities and Exchange Board of India (SEBI) regulates the futures market to ensure transparency, fairness, and the protection of traders. SEBI’s oversight ensures that all contracts are standardized and trades are executed fairly. SEBI also mandates margin requirements to reduce excessive risk-taking and potential defaults.

Key Benefits of Futures Trading

Futures trading offers unique advantages that make it an attractive option for both investors and traders looking to profit from market movements or manage risk. These benefits stem from the structure of futures contracts and the flexibility they provide in various market conditions.

Leverage – Control Large Positions with Less Capital

One of the most significant advantages of futures trading is leverage, which allows traders to control a large position with a relatively small initial investment. Instead of paying the full value of the asset upfront, traders only need to deposit a margin—typically around 5-10% of the contract’s value. This enables greater market exposure with less capital, amplifying both potential profits and risks.

• Amplified gains with lower initial capital investment.

• More efficient use of capital, freeing up funds for other investments.

Example –

If you want to trade a futures contract on gold worth ₹10,00,000, you may only need to deposit ₹1,00,000 (assuming a 10% margin). Any price movement in the underlying asset affects the full ₹10,00,000 position, offering the potential for substantial gains with limited upfront capital.

Hedging – Protection Against Market Risks

Futures trading is an essential tool for hedging, allowing businesses and investors to protect their assets or portfolios from adverse price movements. By locking in prices through futures contracts, market participants can mitigate the risk of volatility in stocks, commodities, currencies, or indices. This is especially valuable in industries like agriculture, energy, and finance, where price swings can have a significant impact on operations and profitability.

• Reduces exposure to market volatility.

• Ensures price stability for businesses and investors.

• Ideal for protecting assets or costs in uncertain markets.

Example –

An airline company might hedge against rising fuel prices by purchasing crude oil futures. If the price of oil increases, the company can offset its higher fuel costs with the profit from the futures contract, ensuring more stable operating expenses.

Flexibility – Profit in Both Rising and Falling Markets

Futures trading provides traders with the ability to profit from market movements in either direction. This means you can take a long position (buy) when you expect prices to rise or a short position (sell) when you anticipate a price drop. This flexibility allows traders to capitalize on market conditions whether they are bullish or bearish.

• Profit opportunities in both bullish and bearish markets.

• Flexibility to adapt to changing market conditions.

Example –

If you believe that wheat prices will rise due to weather conditions, you can buy wheat futures. Conversely, if you expect a market downturn in the stock market, you can sell stock index futures to profit from the decline.

High Liquidity – Ease of Entering and Exiting Positions

Futures markets, particularly in high-demand assets such as stock indices, oil, and gold, are typically very liquid. This high liquidity allows traders to easily enter or exit positions without significant price changes, making it easier to trade large volumes. High liquidity also ensures tight bid-ask spreads, reducing transaction costs and enabling traders to execute trades at favorable prices.

• Easy entry and exit from positions.

• Reduced transaction costs due to narrow bid-ask spreads.

• Suitable for traders who need to move quickly in and out of the market.

Example –

Stock index futures (e.g., Nifty futures) and commodity futures (e.g., crude oil) are highly liquid in the Indian market. Traders can buy or sell these contracts quickly, even for large volumes, without causing price fluctuations.

Transparency and Regulation – Secure and Fair Trading Environment

Futures contracts in India are traded on well-regulated exchanges like the National Stock Exchange (NSE) and the Bombay Stock Exchange (BSE). These exchanges, along with oversight from the Securities and Exchange Board of India (SEBI), ensure that futures markets are transparent, fair, and secure for all participants. Standardized contracts, clear margin requirements, and real-time market data contribute to a secure trading environment.

• Standardized contracts ensure clarity and uniformity.

• SEBI regulation ensures fair play and market stability.

• Protection against fraud or manipulation.

Price Discovery – Better Market Insights

Futures markets contribute to price discovery, providing valuable insights into the expected future prices of assets. Since futures prices are based on market participants’ expectations about the future, they reflect collective market sentiment and forecasts. This can be particularly useful for businesses and investors when making decisions about pricing strategies or future investments.

• Accurate pricing signals for commodities, indices, and stocks.

• Valuable for planning and forecasting future business decisions.

Example –

A farmer might use futures prices to gauge the expected market price for wheat in the coming months, allowing them to make more informed decisions about planting and selling crops.

Diversification – Exposure to a Variety of Markets

Futures trading allows investors to gain exposure to a wide range of asset classes, including commodities (such as gold, crude oil, and agricultural products), currencies, stock indices, and interest rates. This diversification helps investors spread risk across different markets and potentially benefit from unrelated market movements.

• Broader market exposure across asset classes.

• Reduces dependence on a single asset or market.

• Helps in building a diversified portfolio to manage risk.

Example –

An investor could trade crude oil futures alongside stock index futures, reducing their reliance on a single market. This diversification can help minimize risk and capitalize on different market opportunities.

Risk Management Tools – Control Over Losses

While futures trading carries inherent risk due to leverage, it also provides several risk management tools. Traders can use strategies like stop-loss orders to limit potential losses. Additionally, since futures are marked to market daily, traders can exit losing positions before the contract expires, limiting further losses.

• Provides risk control with stop-loss orders and daily settlements.

• Allows traders to exit losing positions early to minimize losses.

Example –

If you have a long position in stock futures and the price starts falling, you can set a stop-loss order to automatically sell the contract if the price hits a certain level, minimizing your potential losses.

Risks and Challenges in Futures Trading

While futures trading offers significant opportunities for profit and portfolio diversification, it also carries substantial risks. The potential for large gains is balanced by the possibility of equally large losses, making it essential for traders to understand the risks and challenges involved.

Leverage Risk – Amplified Losses

One of the primary attractions of futures trading is the use of leverage, which allows traders to control large positions with a small amount of capital. However, leverage can be a double-edged sword. While it can amplify profits, it can also magnify losses. If the market moves against your position, even a small price movement can result in significant financial losses that exceed your initial investment.

• Leverage magnifies both profits and losses.

• Traders can lose more than their initial margin, potentially leading to significant financial distress.

Example –

If you control a ₹10,00,000 futures position with a 10% margin (₹1,00,000), a 5% unfavorable move in the underlying asset’s price can result in a ₹50,000 loss, or 50% of your capital. If the market continues to move against you, you could lose more than your initial investment.

Market Volatility and Price Fluctuations

Futures markets are highly sensitive to market volatility, and prices can fluctuate rapidly due to various factors such as economic data releases, geopolitical events, interest rate changes, and unexpected market shocks. These price swings can result in unpredictable outcomes, making it difficult for traders to forecast future price movements accurately.

• Unpredictable price swings can result in quick and significant losses.

• Market volatility makes futures trading riskier, especially for beginners.

Example –

Crude oil futures are particularly volatile, with prices reacting sharply to global events like political instability in oil-producing regions or changes in OPEC production policies. Even if you have taken a well-researched position, sudden and unexpected market swings can lead to large losses.

Margin Calls and Forced Liquidation

Because futures trading is conducted on margin, traders are required to maintain a certain amount of equity in their account (known as the maintenance margin). If the market moves against you and your account value falls below this threshold, your broker will issue a margin call—requiring you to deposit additional funds to maintain your position. Failure to meet the margin call can result in the broker liquidating your position to cover the losses, often at a substantial loss.

• Margin calls can result in the need to deposit additional capital.

• Failure to meet margin calls can lead to forced liquidation and realized losses.

Example –

You hold a long position in gold futures with an initial margin of ₹1,00,000. If gold prices fall sharply and the value of your position drops, your broker may require you to add another ₹50,000 to maintain the trade. If you fail to meet this requirement, your broker can sell your position at a loss to recover funds.

Mark-to-Market Risk

Futures contracts are marked to market daily, meaning that any gains or losses are reflected in your account at the end of each trading day. This can be beneficial in some cases but can also be risky because daily price movements affect your margin balance. If the market moves against your position over several days, the accumulated losses may become too large to manage.

• Daily mark-to-market settlements can result in significant, ongoing losses.

• Small, continuous price movements can lead to large cumulative losses.

Example –

Suppose you are holding a long position in Nifty futures, and the market declines for three consecutive days. Each day, your account will be debited for the losses, reducing your equity. If the market continues to move against you, your losses may compound, leading to a margin call or the need to exit the position at a significant loss.

Expiry Date Risk

Unlike stocks, which can be held indefinitely, futures contracts have a fixed expiry date. This creates an added element of risk because traders must manage their positions before the contract expires. If the market does not move as expected before the expiry date, traders may be forced to close their position at a loss or roll over the contract to the next expiry month, incurring additional costs.

• Futures contracts expire, limiting the time for recovery from unfavorable positions.

• Rolling over contracts can incur additional costs and expose traders to further risk.

Example –

If you are holding a futures contract that expires in one month, but the market remains stagnant or moves against you, you may not have enough time to recover from losses before the contract expires. This forces you to settle the contract at a loss or roll it over to a future date, which can lead to further costs.

Lack of Ownership of the Underlying Asset

Futures contracts are derivatives, meaning that traders do not own the actual underlying asset. Instead, they are speculating on the price movement of the asset. This can create challenges, especially in volatile markets, as traders cannot benefit from dividends or other forms of income that might be associated with the underlying asset.

• No ownership benefits (like dividends) from the underlying asset.

• Traders are purely speculating on price movements without the safety net of long-term ownership.

Example –

If you are trading stock futures, you do not receive any dividends from the underlying stocks. Even if the company issues a dividend, it will not benefit your futures position. Additionally, you cannot hold the futures indefinitely, unlike the underlying asset, which can be held for the long term.

Liquidity Risk

While popular futures contracts (such as index futures or crude oil futures) are typically very liquid, less popular contracts may suffer from low liquidity. This can make it difficult to enter or exit positions quickly, leading to slippage—where traders have to accept a worse price than expected, increasing transaction costs and potential losses.

• Low liquidity can result in slippage and increased transaction costs.

• Difficulty in quickly entering or exiting positions, especially in less popular contracts.

Example –

If you are trading futures contracts in a less popular commodity like cotton, there may not be enough buyers or sellers in the market. As a result, when you try to exit your position, you may have to sell at a lower price than anticipated, reducing your profit or increasing your loss.

Emotional and Psychological Challenges

Futures trading can be highly stressful, especially when large sums of money are at stake and market volatility is high. The constant monitoring of positions and the risk of margin calls can lead to emotional decision-making, causing traders to deviate from their strategies. Fear and greed often result in traders holding losing positions for too long or exiting winning positions too early.

• Emotional decision-making can lead to poor trading choices.

• High stress and market pressure can cause traders to abandon well-planned strategies.

Example –

A trader may hold onto a losing position, hoping that the market will reverse, instead of cutting their losses early. Alternatively, a trader might exit a winning trade too soon out of fear that the market might turn against them.

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The information provided in this article is for educational purposes only and should not be construed as financial or investment advice. Futures trading involves significant risk and may not be suitable for all investors. Before trading futures, it is essential to conduct thorough research and consult with a qualified financial advisor to understand the risks involved. SMJ is not responsible for any losses incurred from trading futures or any other financial instruments.