Forward Market
• Forwards market
• Futures contract
• Future trades
• Leverage & payoff
• Margin & M2M
• Margin calculator
• Open interest
• How to short
• Nifty futures
• Nifty futures
• Futures pricing
• Hedging with futures
• Notes
Margin Calculator (Part 1)
6.1 – The Margin Calculator
We will now talk about the margin calculator as a follow-up to our chapter’s topic on margins. We will talk about the margin calculator and discover a few related subjects in the following two chapters.
Do keep in mind that we learned about the different kinds of margins to start a futures trade in the previous chapter. Because margins are on the volatility of the underlying, they differ from one future contract to another. Remember that volatility varies from one underlying to another, which causes margins to differ from one underlying to another. We will discuss volatility in more detail in the following lesson. So how can we find out what a specific contract’s margin requirements are? Well, if you trade with Zerodha, you probably already know about the “Margin Calculator.”
One of our most well-liked products is the Zerodha margin calculator, and for good reason. It is an easy-to-use tool with a highly advanced engine in the background. The margin calculator will be to you in this chapter, along with the margin requirements for the contract you select. When we finish the chapter on options in the following module, we will go over this subject again and fully comprehend the adaptability of Zerodha’s margin calculator.
Let’s consider a scenario where someone chooses to purchase IDEA Cellular Limited’s futures contract, which expires on January 29, 2015. Now, one to deposit the initial margin amount in order to start this trade. Additionally, the InitialSPAN Margin plus Exposure Margin equals Margin (IM). You only to complete the following to learn more about the IM requirement:
First, go to https://zerodha.com/margin-calculator/SPAN/ to see the margin calculator. Numerous possibilities are possible, as shown in the image below (I have the same in black). But for the time being, we’ll concentrate on the first two choices, “SPAN” and “Equity Futures.” You will really get on the red- SPAN Margin Calculator subpage by default.
The SPAN Margin Calculator has two primary elements; let’s look at both of them in Step 2.
There are 3 drop-down menu selections in the red section. Choosing the exchange you want to run is essentially what is of you in the ‘Exchange’ dropdown option. Decide –
- MCX if you want to trade commodities futures on MCX,
- NFO if you want to trade futures on NSE.
- To trade currency futures on the NSE, you must use CDS.
If you want to trade a futures contract, select Futures from the ‘Product’ drop-down menu on the right. If you want to trade options, select Options. The symbols for all of the futures and options contracts are in the third drop-down menu. Select the contract you want from this drop-down menu.
Step 4: The Net Quantity is automatically set to 1 lot when you choose the futures contract. You must manually enter the new quantity if you want to exchange more than one lot. As you can see in the screenshot below, the net quality adjusted to the appropriate lot size, 2000, as soon as I chose the IDEA futures contract. I must enter 6000 (2000 multiplied by three) if I want to trade, say, three lots. After completing this, select the appropriate radio button (buy or sell, depending on what you want to do), and click the blue “Add” button.
The split between the SPAN, Exposure, and total starting margin will be once you have instructed the SPAN calculator to apply the margins. This is in the red box in the illustration below:
The following are suggestions made by the SPAN calculator:
SPAN Margin = 22.160 Rupees
Exposure Margin = 14 730 rupees
Initial Margin = Rs. 36,890 (SPAN + Exp).
It’s that simple; now you know how much cash is to start a futures trading on IDEA Cellular. The “Equity Futures” component of the margin calculator is the next intriguing section. The identical topic will be covered in the following chapter. To swiftly understand these three additional topics—Expiry, Spreads, and Intraday order types—we must first understand them. Once we understand these topics, we will be better to understand the “Equity Futures” on the margin calculator.
6.2 – Expiry
The meaning of a futures contract’s “Expiry” was briefly explained in prior chapters. The contract’s expiration date, after which it will no longer exist, is by the term “expiry.” If I buy a futures contract for IDEA Cellular Limited at 149/- with an expiration date of January 29, 2015, anticipating that it will reach 155, it simply means that the move to 155 must occur by January 29, 2015. It goes without saying that I must book a loss if the price of IDEA drops below 149 before the expiration. It is useless to buy IDEA futures even if the price reaches 155 on January 30, 2015 (or any price above 149 in general).
Should it really be so rigid? Is there any leeway when it comes to extending the expiration date? As an example of what I mean:
Approximately one month from now, in the last week of February 2015, the Central Government is to release its budget (considering today is 19th Jan 2015). This time around, I anticipate a strong budget, and in light of the ‘Make in India’ campaign, I’m optimistic that it will have a substantial positive impact on the manufacturing industry. Given this, I’m willing to wager that major manufacturer Bharat Forge will profit greatly from the incoming budget.To be more specific, I anticipate Bharat Forge to increase until the budget (pre-budget rally). I would like to purchase Bharat Forge’s futures right now in order to take advantage of my directional outlook on the company. Look at the illustration below:
Bharat Forge’s January 2015 contract is currently selling at Rs.1022/-, however given the current circumstances, in my opinion, Bharat Forge will increase in value from this point till the final week of February 2015. However, if I purchase the futures contract as indicated above, it will expire on January 29, 2015, leaving me stranded in the middle.
It is obvious that I am not to purchase the January expiry contract because my directional view extends beyond that time frame. In fact, NSE gives you the option to choose a contract that satisfies the expiry criteria for reasons similar to these.
The NSE gives us the option to purchase a futures contract with three distinct expirations at any time. For instance, we have three Bharat contracts because it is January.
- 29 January 2015 – Also as the current month contract or near month contract.
- 2015-02-26 – This is to as the mid-month contract.
- March 26, 2015 – The far month contract is what it is as.
Look at the illustration below:
As you can see, depending on my particular , I may select any contract from the drop-down option for expiry that falls within the current month, mid-month, or far-month. It goes without saying that in this situation, I would select the mid-month contract that expires on February 26, 2015. (as shown below) –
The price change for futures is one element that comes out particularly clearly. The contract that ends on February 26, 2015 is currently trading at Rs. 1,032, while the contract that expires on January 29, 2015 is currently trading at Rs. 1,022.8. In other words, the mid-month contract costs more than the current-month contract. This is always true; the price increases as the expiration date approaches. In fact, the March contract for Bharat Forge Limited, which expires on March 29, 2015, is currently trading at Rs. 1,037.4/-.
For the time being, keep in mind that the price of the current month’s futures should be smaller than the prices of the mid-month and far-month futures. This has a mathematical basis, which will be .
Another crucial idea you should keep in mind is that, as I already indicated, the NSE always makes sure that three futures contracts—the current, mid, and far month—are available for trading. As of today, we are aware that the Bharat Forge contract will expire on January 29, 2015. This indicates that the January contract will no longer be valid for trading after 3:30 PM on January 29, 2015. Does that imply that starting on January 29, 2015, only the February and March contracts will remain in the system?
Not actually; the January contract is still in effect as of 3:30 PM on January 29th, 2015, after which time it will expire. NSE will launch the April 2015 contract on January 30 at 9:15 AM. Thus, we will have three contracts in effect as of January 30.
The February contract would now transition from the mid-month contract to the day before to the contract for the current month.
The mid-month contract would now be the March contract (graduated from being the far month the previous day to a mid-month now)
The recently adopted April contract is to the far month contract.
The May contract will be by NSE when the February contract ends. As a result, the market will be able to trade futures for March, April, and May. I could go on forever.
Anyway, sticking with the Bharat Forge Limited futures contract example, I can purchase the contract that expires on February 26, 2015 and hold it till I think it’s appropriate because I have a slightly longer time horizon. There is, however, yet another choice. I can purchase the January contract instead of the February contract, keep it until it expires or is extremely near to expiring, and sell it. I can pay off the contract from January and purchase the one from February. This is as a “rollover.”
If you frequently watch business news, the TV anchor will frequently discuss the “rollover statistics” right before the expiration time. Don’t be too perplexed by this, though; the process is actually fairly simple. They are attempting to convey a percentage measurement of the number of traders who have “rolled over” (or carried over) their current holdings to the mid-month. It is as bullish if numerous traders are extending their open long bets into the following month; conversely, it is as bearish if numerous traders are extending their open short holdings into the following month. That’s all there is to it. Is this a tried-and-true method for inferring specific market information? No, it’s only a perspective of the market.
So why would someone choose to roll over rather than purchase a long-dated futures contract? The liquidity, also as the ease of buying and selling, is one of the primary causes of this. To put it another way, more traders at any given time favour trading the current month contract than the mid or distant month contract. It goes without saying that the convenience of buying and selling improves when more traders are trading the same contract.
6.3 – Sneak Peek into Spreads
We are currently in a thrilling phase. The debate that follows may seem a little complex at times, but please read it through and make an effort to understand as much as you can. We will go into more information about this at the appropriate time in the future.
Just consider these two agreements:
- Futures on Bharat Forge Limited that expire on January 29, 2015
- Futures on Bharat Forge Limited that expire on February 26, 2015
For all intents and purposes, they are two distinct contracts with slightly different prices that receive their value from the same underlying, namely Bharat Forge Limited. As a result, they both behave similarly. Both the price of January futures and the price of February futures would increase if the spot market price of Bharat Forge stock increased.
Occasionally, circumstances arise whereby one can profit by simultaneously purchasing the current month’s contract and selling the mid-month contract, or vice versa. These kinds of opportunities are as “Calendar Spreads.” The best way to spot these chances and put up transactions is a completely different subject. We’ll talk about this soon. But for now, I want to emphasise the importance of the margins.
We are aware of the rationale behind margin charges, which is mostly risk management. What amount of risk would there be if we bought the contract and sold the same kind of contract at the same time? The risk is significantly decreased. Let me use numbers to demonstrate.
First scenario: Trader purchases only January Futures from Bharat Forge Limited.
Spot Price for Bharat Forge is Rs. 1021 per share.
January contract price for Bharat Forge = Rs.1023/- per share
Size of Lot: 250
Assume that after purchasing, the current price falls to Rs. 1011/- (10 point fall)
Futures price as close as = Rs. 1013/-
P&L = (10 * 250) Equals loss of Rs. 2500
Scenario 2: Trader purchases January futures and sells them for February.
Spot Price for Bharat Forge is Rs. 1021 per share.
Long on the January contract for Bharat Forge at Rs.1023/- per share.
At Rs.1033/- per share, short the February Bharat Forge contract.
Size of Lot: 250
Assume that after placing this transaction, the spot price falls to 1011. (10 point fall)
January futures are approximately priced at Rs. 1013/-.
February futures are approximately priced at Rs.1023/-.
P&L on the January Contract equals (10 * 250) = a loss of Rs.
P&L on the February Contract is 10 * 250 for a profit of Rs.
Net P&L = – 2500 + 2500 = 0
A trader sells January futures and buys February futures in scenario three.
Spot Price for Bharat Forge is Rs. 1021 per share.
In the money on the January Bharat Forge contract at Rs.1023/- per share
Long on the February Bharat Forge contract at Rs. 1033 per share.
Size of Lot: 250
Assume that after this transaction is set up, the spot price rises to 1031. (10 point increase)
January futures are approximately priced at Rs.1033/-.
February futures are approximately priced at Rs.1043/-.
P&L for January Contract = (10 * 250) = Loss of Rs. 2500
P&L for February Contract = (250/10) = Rs. 2500 in profit
Net P&L = – 2500 + 2500 = 0
Clearly, the point that I’m trying to make here is that when you are long on one contract and short on another contract, the risk is virtually reduced to zero. However, it is not completely risk-free; one has to account for the liquidity, volatility, execution risk, etc. But by and large, the risk reduces drastically. So when risk reduces drastically, the margins should also reduce drastically.
In fact, this is what happens, have a look at the following snapshots –
This is the margin requirement (Rs.37,362/-) when we intend to buy January contracts of Bharat Forge.
The margin requirement (Rs. 37,629) is applicable when we plan to sell Bharat Forge’s February contracts.
And the margin (Rs. 7,213/-) is as follows when we plan to simultaneously buy the January contract and sell the February contract.
As you can see, the January and February contracts each call for a payment of Rs. 37,362 and Rs. 37,629, respectively. Therefore, the total is Rs. 74,991. However, the risk is significantly reduced when a futures contract is bought and sold at the same time, thus the for margin. As seen in the aforementioned graphic, the combined position only a margin of Rs. 7,213/-. Another way to look at it is to say that the Margin Benefit (highlighted in black) is lowered from a total of Rs. 74,991 to Rs. 67,658 and is passed on to the client. But keep in mind that a simultaneous long and short position is only created when chances present themselves. The “Calendar Spread” is the name given to these possibilities. There is no purpose in starting such trades if there is no calendar spread opportunity.
CONCLUSION
- You can easily determine the margin for a futures contract using the margin calculator.
- The built-in features of the margin calculator are very flexible.
- The SPAN and Exposure margins are divided up by the margin calculator.
- NSE makes sure there are always three contracts with the same underlying that expire in three separate (but consecutive) months at any one time.
- On the basis of the expiration date, a trader can select the contract of his choice.
- The contract for this month is to as the “Current Month Deal,” the contract for the following month as the “Mid Month Contract,” and the contract for the third month as the “Far Month Contract.”
The current month contract expires with each renewal, and a new far month contract is initiated. The mid-month contract would eventually transition to the current month contract throughout this process.
A trading strategy as a calendar spread is simultaneously purchasing one month’s contract and terminating another month’s contract for the same underlying.
The margins needed to start a calendar spread are lower because the risk is so much lower.