Futures and options trading

Indian Economy glossary

Also called: F&O, Equity derivatives · Topic: Financial Markets, Instruments, Insurance and Pensions · NCERT: Beyond NCERT

Meaning

Futures and options (F&O) trading means buying and selling standard futures and options contracts on shares and stock indices (like the Nifty) on a stock exchange. These contracts are derivatives: they have no value of their own, and their value comes from the share or index behind them, called the underlying.

It matters for two reasons. F&O lets investors hedge (protect themselves against price falls) and helps the market find the right price. But in India most of the trading is short-term betting by small investors, and SEBI studies show that about 9 in 10 of them lose money [1][2].

Key formulas (S = spot price at expiry, K = strike price):

Call buyer's payoff = max(S − K, 0) − premium
Put buyer's payoff = max(K − S, 0) − premium
Fair futures price (cost of carry): F = S × (1 + r × t). Here S = today's spot price, r = interest rate per year, and t = time to expiry in years.

Explanation

Futures: how they work

Futures = a standardised forward contract that is traded on an exchange. It is a promise to buy or sell the underlying at a fixed price on a future date.
The exchange fixes the lot size (units in one contract), the expiry date (the last day of the contract) and the settlement rules.
A clearing corporation stands between buyer and seller. So neither side carries the risk that the other side will not pay.
Margin = a deposit the trader keeps with the broker or clearing house as a safety cushion.
Initial margin is paid when the trader enters.
Maintenance margin is the minimum balance that must always be kept.
Mark-to-market (MTM) = at the end of each day, gains and losses are settled in cash at that day's closing price.
Losses cannot pile up unseen, so the risk of default falls.
Worked example (MTM):
A trader buys 1 lot (75 units) of index futures at 24,000.
Day 1 close is 24,100. Gain = 100 × 75 = ₹7,500, credited.
Day 2 close is 23,900. Loss = 200 × 75 = ₹15,000, debited.
If the margin falls below the maintenance level, the broker asks for more money. This is called a margin call.
Cost-of-carry example: S = ₹1,000, r = 6%, t = 3 months (0.25). F = 1,000 × 1.015 = ₹1,015.

Options: rights, not obligations

Option = the right but not the obligation to buy or sell the underlying at a fixed price, the strike price, on or before expiry.
Call option = right to buy.
Put option = right to sell.
Premium = the price the buyer pays the writer (the seller of the option) for this right.
The buyer can lose at most the premium.
The writer can gain at most the premium, but can lose a very large amount, because the writer must deliver or take delivery if the buyer uses the option.
Worked example (call): strike ₹100, premium ₹5.
The share ends at ₹120. Profit = (120 − 100) − 5 = ₹15.
The share ends at ₹90. The buyer lets the option lapse. Loss = ₹5, the premium only.
Break-even = strike + premium = ₹105.
Worked example (put as insurance): an investor holds a share at ₹500 and buys a put with strike ₹480 for ₹10.
The share crashes to ₹400. The put pays 480 − 400 = ₹80. Net protection = ₹70.
Moneyness = where the strike price stands against today's price:
In-the-money: a call with S > K, or a put with S < K.
At-the-money: S = K.
Out-of-the-money: the reverse of in-the-money.

Why people trade F&O: three uses

Hedging = taking an opposite position to reduce risk. For example, an investor buys a put to protect a share portfolio.
Speculation = betting on price moves without owning the underlying.
Leverage means a small margin controls a large contract.
- If the price moves in your favour, you gain a lot compared with the money you put in.
- If it moves against you, your losses grow just as fast.
Arbitrage = buying and selling the same asset in two markets at once to profit from a price gap, with little or no risk.
Example: the spot price is ₹1,000, the futures price is ₹1,030, and the fair price is ₹1,015.
- Buy in the cash market and sell the futures.
- You lock in about ₹15 above the cost of carry.
Arbitrage pulls the two prices back into line.

In India

History: index futures started in June 2000, as part of the capital-market reforms that began in the 1990s. Contracts trade on exchanges such as NSE and BSE, and SEBI regulates them.
Scale: India is the world's largest derivatives market by number of contracts traded. Most of the volume is short-dated index options, often traded on expiry day.
SEBI loss studies:
FY22–FY24: 93% of individual F&O traders lost money. Total losses were over ₹1.8 lakh crore across the three years, released in September 2024 [1].
FY25: about 91% of individual traders lost money. Net losses rose 41% to ₹1,05,603 crore, from ₹74,812 crore in FY24, after counting transaction costs [2].
FY25–FY26: SEBI published two new studies in August 2026, on the profitability and the trading behaviour of individual traders in equity derivatives [3].
For comparison, in July 2024 SEBI found that 7 out of 10 individual intraday traders in the equity cash segment lose money [2].
SEBI circular of 1 October 2024, "Measures to Strengthen Equity Index Derivatives Framework for Increased Investor Protection and Market Stability" [4]:
Bigger contract size: the contract value is now ₹15 lakh to ₹20 lakh, up from ₹5–10 lakh [4]. This keeps out small traders who cannot afford the risk.
Only one weekly index expiry per exchange. Earlier, some weekly expiry fell on almost every weekday.
Option premium collected upfront from buyers, so buyers cannot trade on borrowed intraday money.
No calendar-spread margin benefit on expiry day. A calendar spread means holding positions in two expiries of the same contract.
Intraday monitoring of position limits (checking during the day, not only at closing), under a separate SEBI circular of October 2024 [5].
Tax: Budget 2024-25 raised STT (Securities Transaction Tax, a tax charged on every trade on the exchange) on F&O.

Don't confuse with

Forward contract: a forward is a customised, private (OTC) deal with high counterparty risk (the risk that the other side will not pay). Futures are standardised, exchange-traded and marked to market daily.
Intraday trading in the cash market: here the trader buys and sells actual shares within the same day. F&O involves contracts on shares or indices, not the shares themselves. SEBI studies the two separately (93%/91% loss-makers in F&O [1][2] against 7 in 10 in intraday cash trading [2]).
Swaps and CDS: these are mostly OTC derivatives on interest rates, currencies or credit. RBI governs CDS. Equity F&O is exchange-traded and regulated by SEBI.
Commodity derivatives: futures and options on metals, energy and farm produce, traded on MCX and NCDEX. They have been under SEBI since the Forward Markets Commission merged into SEBI in 2015. Equity F&O is on stocks and indices.

Prelims Hooks

An option buyer has a right, not an obligation, and pays the premium. The writer (seller) carries the obligation and can face very large losses.
Call = right to buy. Put = right to sell. Call payoff = max(S − K, 0) − premium. Break-even for a call = strike + premium.
Futures are exchange-traded, standardised and marked to market daily. Forwards are OTC and customised. Index futures in India began in June 2000.
SEBI study: 93% of individual F&O traders lost money in FY22–FY24 [1]. About 91% lost money in FY25, with net losses of ₹1,05,603 crore [2].
SEBI's 1 October 2024 circular: index derivative contract value set at ₹15–20 lakh, up from ₹5–10 lakh. It also allows one weekly expiry per exchange and requires upfront premium from buyers [4].
Trap: India is the world's largest derivatives market by number of contracts traded, not by value. Most of the volume is index options, not stock futures.

Mains Points

Hedging vs speculation:
F&O helps price discovery, since futures prices show what the market expects. It also gives hedging tools and adds liquidity (more buyers and sellers, so lower trading costs).
But when about 9 in 10 retail traders lose money year after year [1][2], the market is serving speculation more than hedging. For most small traders it works like gambling.
SEBI has chosen to make entry harder (bigger contracts, upfront premium, fewer expiries [4]) rather than ban the products. This keeps the benefits for hedgers.
Household savings and investor protection (GS-III):
Net losses of ₹1,05,603 crore in FY25 [2] are household savings moving to proprietary traders (firms trading with their own money) and algorithmic firms (firms using computer programs to trade at high speed). These firms have better technology and speed.
- That money could have gone into long-term investment in the economy.
The Economic Survey has warned about this trend. The answer links to financial literacy, SEBI's role in investor protection, and the use of tax (higher STT in Budget 2024-25) to cool speculation.

Related concepts

Derivatives: forwards, futures, options, swaps and CDS