Sunday, May 22, 2022

Futures Vs Options: Difference Between Futures And Options Trading

Before knowing the difference between futures and options, it is necessary to know what are futures and options.

Futures and options are signed contracts between the buyer and seller to trade a stock asset in the future, at a predetermined price. Such contracts try to hedge the market risks involved in stock market trading, by locking in an already fixed price.

What is derived value? Simply put, the value derived from an asset can be called derived value.

Futures and Options – What is the difference between them?

The difference between futures and options focuses on obligations, risks, advance payments and when contract execution can be made.

  • Obligations

A futures contract is an agreement between two parties to buy or sell an asset at a specified price at a specified time in the future. Here, the buyer is obliged to buy the property at a predetermined future date.

An options contract gives the buyer the right to purchase an asset at a specified price. However, there is no obligation on the part of the buyer to buy. But still, if the buyer wants to buy the property, the seller is bound to sell it.

  • Rsk

A futures contract holder is obliged to buy at a future date, even if it is a loss-making deal for them. Suppose the market price of the asset falls below the price written in the contract. The buyer will still have to buy it at the pre-agreed price and incur a loss.

The buyer has an advantage here in an options contract. If the asset value falls below the agreed value, the buyer can refuse to buy it. It limits or minimizes the loss of the buyer.

In other words, a futures contract can bring in unlimited profit or loss. Meanwhile, an options contract can bring in unlimited profits, but it minimizes potential losses.

  • Advance Payment:

No advance payment is required to be made at the time of entering into a futures contract. But the buyer is bound to pay the agreed price for the assets as the agreed price.

In an options contract, the buyer has to buy the premium amount. The payment option of this premium amount gives the buyer the privilege of not buying the property at a future date if it becomes less attractive. If the options contract holder does not want to buy the asset, he incurs a loss of the premium amount paid.

In both cases, you may have to pay some commission.

  • Contract Execution:

futures contract is executed on the forward date specified in the contract. On this date, the buyer buys the underlying asset.

However, in an options contract, the buyer can execute the contract before the expiry date. And whenever he feels that the circumstances are right, he can buy the property.

In short:

In a futures contract:

  1. The buyer is bound to honor the contract.
  2. If the buyer exercises his right, the seller is required to perform the obligation to sell / buy as per the contract.
  3. Requires higher margin payment than options.
  4. There is a possibility of unlimited profit and loss.

In options:

  1. The buyer has no obligation to actually buy or sell.
  2. If the buyer exercises the right, the seller has to perform the obligation to sell/buy in the contract.
  3. Less margin needs to be paid as compared to futures.
  4. Liked by hedgers.
  5. There is a possibility of unlimited profit (limited) loss.
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