Let us take futures trading demo to understand operations of future trading:
Contracts are highly leveraged investments. Either to buy or sell futures contract an investor rather than paying actual amount they only has to invest fraction of the contract amount mostly 10% as a margin amount or leverage amount and profits are multiplied on the actual amount. Minimum margin is required to hold the future contract as a form of security. With leverage it gives benefit to traders to buy or sell around ten-times as much although losses can be minimised with Stop-Loss orders. This makes future contracts an outstanding investment return instrument when compared with buying gold, silver, cotton or wheat in physical.
For example: Assume you wish to buy 1 lot of NIFTY Future contract for expiry 28JAN2016 at Rs.7900/- with then intension of rise in price. 1 lot consist of 50 contracts (or 50 shares) bind together to form a single lot of Nifty future contract. At the expiry you sell the contract at Rs.8200/-. Let us calculate the leverage margin, actual amount and returns on the investment.
| NIFTY Future Contract Details | ||
| Contract Expiry: | 26JAN2016 | |
| Buying Price: | 7,900.00 | |
| 1 Lot Size: | 50.00 | |
| Actual Amount: | 3,95,000.00 | |
| Margin Amount: | 39,500.00 | (Leaverage is10% of Actual Amount) |
| Selling Rate: | 8,200.00 | Sell Price |
| Profit: | 15,000.00 | (Sell Price – Buy Price) * Lot Size |
| Profit Percent: | 33.71 | (Profit * 100) / Margin Amount |
Results are really outstanding, By merely investing Rs.39,500/- as a margin amount you make a profit of Rs.15000/- which is 33.71 percent. Whereas same thing if you invest in stock then you’re investing capital would be Rs.3,95,000/- and profit would be Rs.15000/- which is 3.37 percent (Profit * 1000 / Actual Investment). When comparing, difference in investment return percentage makes future instrument excellent when comparing same investment with same profit.