Stock index is the measurement of the value of a portion of the stock market. The most familiar names include NASDAQ, S&P Global 100, BSE, NSE and so on.
What is a Stock Index Future?
In simple terms, it is an investment instrument that combines features of share trading based on stock indices with the features of Futures trading. It can be done virtually just as online trading in stocks.
For example, an investor agrees to buy a index future, say National Stock Exchange composite index NIFTY on a future date and at a specified price. This helps the investor to speculate on the entire stock market’s performance and hedge a long position against drop in value or short sell an index with a future contract.
Stock market futures follow benchmarks like NIFTY and SENSEX. One of the major reasons why these are preferred is to profit from and to protect against the changes in the underlying stock indices. A few of its advantages are listed below.
Hedging with Stock Index Future
This can be easily explained with the help of an example. Suppose an investor holds a well diversified portfolio of stocks. He is concerned about a possible market decline but is not willing to sell stocks, probably because he fears missing out the dividend payments or tax reasons or he believes that the stocks will do good in spite of the plunging market.
Considering the scenario, he tries to hedge with selling index futures contract. If the market falls, his short futures position may yield profits to make up for his losses on his stock holdings. On the other hand, if the market rises, his futures position may produce losses that would compensate appreciation in his stock portfolio. Either way, he becomes risk averse.
Added flexibility to the portfolio
Futures are available on a wide variety of leading stocks. In short, wherever there is a stock market, future index contract is there to cover or capitalize on it. You can find all Stock index futures from NSE India Website. F & O underlying and Derivative stock watch.
Fits to any account size and any market condition
The stock index futures is now customized to fit almost any size account. It has thus become accessible to everyone in the market. Many major stock index futures offer options on futures contract. An investor can now use any strategy to fit almost any market condition.
It is good to know that stock index futures and options are not buy-and-hold investments. Instead, they are short-term trading vehicles with a time limitation.
Benefits from commission costs
Normally, in stock trading the commission is charged for only one side of a transaction i.e. either buying or selling. Whereas, the commission for future index trading is round turn which means it is charged for a ‘buy’ and a ‘sell’. Thus, it saves us valuable money. (This varies from broker to broker)
Quick and efficient risk transfer
Big markets such as S&P 500 futures can handle any size order at any time during the trading session. With the one like E-mini S&P 500, trading sessions are now functioning almost around the clock. Thus, the trader has an instant source of liquidity at any time of the day.
Stocks markets can often be volatile. But then, there are numerous investing and trading opportunities that could be used as a hedging vehicle to protect value of our portfolio. It is important to understand the risk factors as well. Incorporating stock index future in one’s portfolio depends on personal goals and risk tolerance. An intelligent decision will definitely pay off.
