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Equity derivatives are financial contracts whose value is derived from underlying equity securities. In the Indian share market, equity derivatives include products such as stock options and stock futures. These derivatives allow investors to speculate on the future movements of stock prices or to hedge their existing equity positions. They are traded on the NSE and the BSE. This article will talk about equity derivatives, how one can make the right use of them, and the important details of the same. One should consider utilising a brokerage calculator to calculate transaction costs and optimise trading methods for equities derivatives to traverse the Indian market.
Table of Contents
Defining Equity Derivatives
Equity derivatives are contracts that derive their value from existing equity assets. This can include stocks, stock indices, and other financial instruments that are based on stocks.
- Equity derivatives include products such as stock options, stock futures, and other derivatives that allow investors to speculate on the future movements of stock prices or hedge their existing equity positions.
- These contracts can be used for a variety of purposes, such as managing risk, generating income, or taking advantage of market opportunities.
Using Equity Derivatives
Equity derivatives can be used in a variety of ways, including:
- Stock Options: An option is a contract that gives the holder the right, but not the obligation, to buy or sell a specific stock at a strike price till the expiration date. Options can be used for hedging or speculation.
- Stock Futures: A futures contract is an agreement to buy or sell a specific stock at a specific price on a specific date in the future. Futures contracts are often used for hedging or speculation.
- Stock Index Futures: A stock index future is a contract that allows investors to speculate on the future value of a stock market index.
- Variance Swaps: A variance swap is a contract that allows investors to speculate on the volatility of a stock or index.
- Dividend Swaps: A dividend swap is a contract that allows investors to speculate on the future dividends of a stock.
- Equity-Linked Note (ELN): An ELN is a debt instrument that has equity exposure. ELNs are typically issued by banks, and the returns on them are linked to an underlying equity or a basket of equities.
All these derivatives can be used to manage risk, generate income, or take advantage of market opportunities, and they can be traded on organised exchanges.
Advantages of Buying Equities Derivatives in India
There are several advantages to investing in Indian equities futures, including:
- Equity futures give investors exposure to a variety of equity and stock indices, allowing them to diversify their portfolios.
- Equity futures can be utilised as a loss-hedging strategy for other portfolio components.
- Through the use of leverage, equity derivatives give investors the opportunity to increase their returns.
- In order to increase market liquidity and transparency, Indian equity derivatives are traded on regulated exchanges like the National Stock Exchange (NSE) and Bombay Stock Exchange (BSE).
- Equity derivatives have the potential to reduce and manage risk, which is advantageous for both investors and businesses.
- Due to the higher volatility of these products compared to the underlying stock, it may present the possibility of bigger returns.
- It provides the option to adapt a strategy to a particular investor’s needs.
Please be advised that investing in stock futures carries inherent risks such as leverage, which amplifies both gains and losses. Additionally, the volatile nature of stock futures markets can lead to rapid price fluctuations, resulting in substantial financial losses for investors. Hence, it is crucial to be aware of these risks before investing. Before making any investment decisions, one should always seek the advice of a financial professional.
Conclusion
Equity represents ownership in a company, providing entitlement to a share of profits, while derivatives are contracts based on future asset values, allowing investors to profit from anticipated price movements. Combining these concepts, equity derivatives offer lucrative investment opportunities for those willing to explore diverse strategies aligned with their financial objectives and risk appetite.