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FMM Chapter 5 Notes

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331 views

FMM Chapter 5 Notes

Uploaded by

anshuman.nanda.ai786
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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DERIVATIVES

1. What are Types of Derivatives?


Forwards: A forward contract is a customized contract between two entities, where
settlement takes place on a specific date in the future at today’s pre-agreed price.
Futures: A futures contract is an agreement between two parties to buy or sell an asset
at a certain time in the future at a certain price. Futures contracts are special types of
forward contracts in the sense that the former are standardized exchange-traded
contracts, such as futures of the Nifty index.
Options: An Option is a contract which gives the right, but not an obligation, to buy or
sell the underlying at a stated date and at a stated price. While a buyer of an option pays
the premium and buys the right to exercise his option, the writer of an option is the one
who receives the option premium and therefore obliged to sell/buy the asset if the buyer
exercises it on him. Options are of two types - Calls and Puts options: ‘Calls’ give the
buyer the right but not the obligation to buy a given quantity of the underlying asset, at a
given price on or before a given future date. ‘Puts’ give the buyer the right, but not the
obligation to sell a given quantity of underlying asset at a given price on or before a
given future date. Presently, at NSE futures and options are traded on the Nifty, CNX
IT, BANK Nifty and 116 single stocks.
Warrants: Options generally have lives of up to one year. The majority of options
traded on exchanges have maximum maturity of nine months. Longer dated options are
called Warrants and are generally traded over-the-counter.
2. What is an ‘Option Premium’?
At the time of buying an option contract, the buyer has to pay premium. The premium is
the price for acquiring the right to buy or sell. It is price paid by the option buyer to the
option seller for acquiring the right to buy or sell. Option premiums are always paid
upfront.
3. What is ‘Commodity Exchange’?
A Commodity Exchange is an association, or a company of any other body corporate
organizing futures trading in commodities. In a wider sense, it is taken to include any
organized market place where trade is routed through one mechanism, allowing effective
competition among buyers and among sellers
4. What is meant by Commodity?
FCRA Forward Contracts (Regulation) Act, 1952 defines “goods” as “every kind of
movable property other than actionable claims, money and securities”. Futures’ trading
is organized in such goods or commodities as are permitted by the Central Government.
At present, all goods and products of agricultural (including plantation), mineral and
fossil origin are allowed for futures trading under the auspices of the commodity
exchanges recognized under the FCRA.
5. What is Commodity Derivatives Market?
Commodity derivatives market trade contracts for which the underlying asset is
commodity. It can be an agricultural commodity like wheat, soybeans, rapeseed, cotton,
etc. or precious metals like gold, silver, etc.
6. What is the difference between Commodity and Financial derivatives?
In the case of financial derivatives, most of these contracts are cash settled. Even in the
case of physical settlement, financial assets are not bulky and do not need special facility
for storage. Due to the bulky nature of the underlying assets, physical settlement in
commodity derivatives creates the need for warehousing. Similarly, the concept of
varying quality of asset does not really exist as far as financial underlyings are
concerned. However, in the case of commodities, the quality of the asset underlying a
contract can vary at times.

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