What is futures and options.

June 1, 2009

Futures and options are forms of exchange- regulated forward trading in which you enter into a transaction today, the settlement of which is scheduled to take place at a future date. The settlement date is called the expiry of the contract.
Futures :-
A Futures Contract is an agreemnet between the buyer and the seller for the purchase and sale of a particular asset at a specific future date. The price at which the asset would change hands in the future is agreed upon at the time of entering into the contract.
The actual purchase or sale of the underlying involving payment of cash and delivery of the instrument does not take place until the contracted date of delivery.A future contract involves an obligation on both the parties to fulfill the terms of the contract.
Options :-
An option is a contract that goes a step further and provides the buyer of the option the right without the obligation, to buy or sell put as specified asset at an agreed price on or upto a specific date.
For accuring this right the buyer has to pay a premium to the seller.The seller on the other hand has the obligation to buy or sell that specific asset at the agreed price. The premium is determined taking into account a number of factors, such as the underlying's current market price, the number of days to the expiration the strike price of the option, the volatility of the underlying assets, and the risk less rate of return.
Specifications of the options contract like the strike price, the expiration date and regular lot are specified by the Exchange.
An Option contract may be of two kinds:
Call Option - An option that provides the buyer the right to buy is a call option.The buyer of the call option can call upon the seller of the option and buy from him,the underlying at any point on or before the expiry date by exercising his option at the agreedprice. The seller of the option has to fulfill the obgilation on exercise of the option.

Put Option - The right to sell is called a put option. Here the buyer of the option can excercise his right to sell the underlying to the seller of the option at the agreed price.

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