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Of the financial future contracts, the key contracts are stock index futures and futures on individual stocks.

Stock Index futures

These were introduced in the U.S.A. in 1982 with the Commodity Futures Trading Commission (CFTC) approving the Kansas Board of Trade (KCBT) proposal.

The futures market in India has opened up with the introduction of stock index futures.

Index Construction

A certain base year is chosen in the first instance and the average market value of the shares of those companies for this base period is obtained. Similarly, the current market value for each scrip is obtained by multiplying the price of the share by the number of shares outstanding. The index on a given day is calculated as the percentage of the aggregate market value of the same set of companies, as are included in the base period calculation.

An index number obtained in such a manner has the flexibility to adjust for the price changes caused by several corporate actions like bonus issues, rights issues etc.

Major Indices in the Indian Capital Market

i) ii) iii) iv) v) vi) BSE Sensitive Index Number of Equity Prices, BSE -30: SENSEX BSE National Index of Equity Prices BSE-200 and the Dollex BSE 500 NSE-50: S&P CNX NIFTY NSE Midcap Index: CNX NIFTY Junior

Valuation of stock index futures

Case 1

When the securities included in the index are not expected to pay any F = S0ert

dividends during the life of the contract:

Where F is the value of futures contract, S0 is the spot value of index, r is the continuously compounded risk-free rate of return, and t is the time to maturity (in years).

Case 2

When dividend is expected to be paid by one or more of the securities F = (S0 - I)ert

included in the index during the life of the contract:

Where I is the discounted value of the dividend and other symbols are same as defined earlier.

Case 3

When dividend on the securities included in the index is assumed to be F = S0e(r-y)t

paid continuously during the life of the contract :

Where, Y is dividend yield rate.

Uses of Stock Index Futures

Speculation Arbitrage Funds Lending Securities Lending Strategic Arbitrage Hedging

Futures on Stocks
In India, the introduction of future contracts on shares of individual stocks in November 2001 has met with a good reception from the market participants, to begin with.

A futures contract on a stock is one where the party with long position agrees to buy a certain number of shares of a company at a certain price at a certain date in future and the party with short position agrees to deliver the same and receive the amount.

The contract may also be cash-settled so that no physical delivery is made. Like other futures contracts, when two parties agree for a trade, the clearing corporation steps in and assumes a counter party position to each of them. Each of the parties has to pay initial upfront margin to the clearing corporation. Then, as time passes, their positions are marked-to-the-market depending upon the market price of the futures contract traded between the parties. If the market price increases, the account of the long is credited and that of the short is debited, while if the price of futures decreases, the short is credited and the long is debited. Accordingly, additional margin is called for from the party whose account is debited, on a dayto-day basis. This is continued until the date of maturity arrives when either the delivery is executed against payment or the difference between the spot value and the contracted prices is settled in cash and their accounts are accordingly credited or debited.

Sample Futures Contract

The specifications for futures contracts trading on the National Stock Exchange of India, NSE, are given below:

Item Security Description Underlying Unit

Specification As per Note 1, Below Box Individual scripts as per SEBI list (given in Note 1, Below Box)

Contract Size Price Steps Trading Hours Trading Cycle

As per Note 1, Below Box. See also Note 2. Re 0.05 9.55 a.m. to 3.30 p.m. A maximum of three month trading cyclethe near month (one), the next month (two) and the far month (three). New contract is introduced on the next trading day following the expiry of near-month contract.

Last Trading/Expiration Day

The last Thursday of the expiry month, or the Preceding trading day if the last Thursday is a trading holiday.

Settlement Final Settlement

In cash on T + 1 basis Closing price of the underlying security in the capital market segment of the National Stock Exchange on the expiration day of the futures Contracts.

Daily Settlement Price

Closing price of futures contract. Computed on the basis of the last half-an-hour weighted average price of such contract in F&O segment

Settlement Day Margins

Last trading day Upfront initial margin on daily basis

Source: NSE

Note 1

At present, SEBI allows trading of futures contracts in a total of 31

individual securities.

Note 2

The value of a futures contract on an individual stock cannot be less than

Rs 2 lac at the time of its introduction.

List of Securities on which Futures Contract are Available

Sr.No. 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 15.

Name Associated Cement Co. Ltd. Bajaj Auto Ltd. Bharat Petroleum Corporation Ltd. Bharat Heavy Electricals Ltd. BSES Ltd. CIPLA Ltd. Digital Equipment (I) Ltd. Dr. Reddys Laboratories Grasim Industries Ltd. Gujarat Ambuja Cement Ltd. Hindustan Lever Ltd. Hindustan Petroleum Corporation Ltd. Hindalco Industries Ltd. HDFC Lt. ICICI Ltd.


Lot Size 1500 800 1200 1100 1100 200 400 200 700 1100 300 1000 1300 300 2800

16. 17. 18. 19. 20. 21. 22. 23. 24. 25. 26. 27. 28. 29. 30. 31.

Infosys Technologies Ltd. ITC Ltd. Larsen & Toubro Ltd. Mahindra & Mahindra Ltd. Mahanagar Telephone Nigam Ltd. Ranbaxy Labs Ltd. Reliance Petroleum Ltd. Reliance Industries Ltd. Satyam Computer Services Ltd. State Bank Of India Sterlite Optical Technology Ltd. TELCO Ltd. Tata Power Co. Ltd. Tata Iron and Steel Co. Ltd. Tata Tea Ltd. Videsh Sanchar Nigam Ltd.


100 300 1000 1600 2500 500 600 4300 1200 1000 600 3300 1800 1600 1100 700

Pricing of Futures Contracts on Stocks

When no dividend is expected from the underlying stock, F = S0ert

Where, F is the value of futures contract, S0 is the spot value of stock, r is the continuously compounded risk-free rate of return, and t is the time to maturity (in years).

When dividend is expected from the underlying stock, F = (S0 - I)ert Where, I is the discounted value of the dividend receivable from the stock, and other symbols are same as defined above.

Utility of Individual Stock Futures

The futures on individual stocks are as useful to hedgers, speculators and arbitrageurs as any other futures contracts including those on stock indices. An investor who has a long position in a particular security can obtain a hedge cover by taking a short position in the futures in case he fears that the market in general and/or the particular security he holds is likely to witness a southward movement. Similarly, a short position in a security can be hedged with a long position in futures. Single stock futures are a leveraged product and they allow an access to the performance of a security without owning it or paying a full price of it. Thus, an investor, who believes that the price of a given security is likely to rise in the days to come, can make a profit by taking long position in the futures contract and reversing the position later on when the prices do rise. Investing in the security requires large sums while long position in futures can be taken by about one-fifth of that amount (if the initial margin is, say 20%).

Similarly, if the price is likely to fall, advantage can be taken of this, by holding short position in futures on security rather than short selling the security and borrowing.