Introduction to Futures Trading – Leverage, Hedging and Speculation

A futures contract is a legal agreement to buy or sell an asset on a specific future date at a price agreed today. A farmer worried that wheat prices might crash before harvest can lock in a selling price now — that's hedging, transferring price risk to someone else. Financial futures work the same way, just on indices and stocks instead of grain.

In the spot market, you buy a share today and it settles in your demat account within a couple of days. In the futures market, you enter a contract today at a locked-in price, but settlement happens on a future expiry date — typically the last Thursday of the month for Nifty 50 futures, India's most heavily traded contract.

The defining feature of futures is leverage. A broker typically only requires an initial margin of around 10 to 15 percent of the contract's full value, meaning a trader can control a position many times larger than their actual cash outlay. If a trader deposits ₹10 lakh in margin to control a position worth ₹65 lakh, that's roughly 6.5x leverage.

Leverage is a double-edged sword: it multiplies gains in your favor by the same factor it multiplies losses against you.

Going long means buying a futures contract because you expect the price to rise; going short means selling one because you expect it to fall. Both directions are equally available in futures, unlike the spot market where shorting is more restrictive for retail investors.

Hedging is where futures earn their keep for conservative investors. An investor holding a ₹25 lakh diversified equity portfolio who is worried about a short-term correction can sell index futures against that portfolio. If the market falls, losses on the stock portfolio are offset by gains on the short futures position — the investor gives up some upside in exchange for downside protection, much like buying insurance.

Futures contracts expire monthly or quarterly. A trader who wants to stay in the position past expiry closes out the current contract and simultaneously opens a new one in the next expiry cycle — this is called rolling the position, and it's why futures prices usually trade at a small premium or discount to the spot price.

Every trading day, a futures position is "marked to market" — your profit or loss is recalculated against the day's closing price and settled into your account immediately, rather than only being realized when you eventually close the position. This is different from spot stocks, where paper gains and losses don't matter until you actually sell.

• Always use a stop loss. Leverage means a modest adverse price move can wipe out a large percentage of your margin very quickly.
• Risk only a small percentage of your total capital on any single trade — professional traders often cap this at one to two percent.
• Don't max out available leverage just because your broker allows it. Controlling a smaller multiple of your capital gives you room to absorb normal price swings without a margin call forcing you out of a good position.
• Keep spare cash available. If a position moves against you, your broker will issue a margin call, and if you can't meet it, your position gets closed automatically at a loss.

For most beginners, futures are best avoided in the first year or two of investing. Master direct equity and mutual funds first. If you do move into futures later, start small, use them primarily to hedge an existing portfolio rather than to speculate, and treat every position as though the leverage could work against you tomorrow.