In financial terms, a stock market futures trading agreement is a money-settled derivative, on the future date, on the market value of a specific stock market index. The bank for International Settlements in New York establishes the prices and quantities of the derivatives. The banks use information from bank rate of the foreign currency with which the securities are traded, the current price of gold, oil, and other world indices to base the price on. The turnover in the foreign exchange in money-settled stock market futures is conceptually valued, for the international market, at USD 130 billion.
Futures contracts are not like ordinary stock market futures contracts. They are actually derivatives, that are financial products whose values change with the changes of factors underlying them. For instance, if a trader wants to purchase stock market futures contracts, he would have to pay for the right of buy and sell at a certain date and price during a definite period of time. Also, the person has to pay the amount of premium that is specified in the contract.
The purpose of using futures contracts is to protect the holder of the contract, so that he will be paid the amount of money at a definite date irrespective of the actual prices and values of the underlying commodities and investments in the market. There are two types of futures trading: open-outcry and close-out. In the former type of trading, the actual market price is determined long before the actual trading day and the contract is traded as per its fair value at that time. Similarly, in the latter type of trading, the market price is determined near the market closing and the contract is traded as per its fair value at that time.
The two types of traders, primary and secondary, have different characteristics, advantages and disadvantages. Primary traders are known as day traders. They buy and sell stocks through the stock market futures contract at their earliest opportunity. Secondary traders are those traders who hold the stock contract for longer periods and make profits from the difference between the actual stock price and the fair market price.
The term ‘fair value’ means the price at which the contract is sold. The same thing could be said for the pre-market and post-market trading options. Pre-market futures contracts are usually traded between two brokers, over the telephone or through the internet. Post-market trading options are allowed only when the stock market futures fair value has been reached by one broker. In such cases, the buyers decide to wait until the next trading day when the price of the commodity should have risen. But it is not necessary that the price should actually rise; the buyers just have an option of exercising it.
While there are many advantages in buying and selling futures contracts, they also carry some risks. One important risk in stock market futures contracts is that they may not be liquidated in time. When the price level does not fall as expected, then a number of holders may still hold on to the shares. If this happens, then the price of the stock could drop below the option exercise price.
Market makers, who are responsible for ensuring that the market progresses as per the wishes of the traders, usually make the market futures contracts. They do so by selling the contracts to the traders at an agreed price. In the process of selling the contracts, they end up with the money that was invested in the underlying index. These contracts are also known as forward contracts. The most common market futures contracts are put and call options.
These contracts are traded under the futures segment of the stock market. There are a number of underlying factors which determine how the underlying index would react to the prices set by the contract. Traders need to make sure that the investment they have made in the e-mini futures is secure. Traders can go ahead and trade the futures until the underlying index falls by the specified margin. The trader stands to make money if the market volatility increases and the equity index fall by the margin amount. The gain made by the investor is dependent on the equity index moving towards the option level.