Understanding Advanced Market Instruments in India
Derivatives are financial contracts whose value is derived from an underlying asset such as equity shares, indices, commodities, or currencies.
In India, derivatives are mainly used for risk management (hedging) and advanced trading strategies, not for beginners.
What Are Derivatives?
A derivative does not represent ownership.
Instead, it is a contract that depends on the price movement of something else.
Underlying assets can include:
- Equity shares
- Stock indices (NIFTY, SENSEX)
- Commodities
- Currencies
Derivatives are regulated by SEBI and traded on NSE and BSE.
Why Do Derivatives Exist?
Derivatives were created to:
- Protect investors from price fluctuations
- Manage risk
- Provide price discovery
- Improve market liquidity
They are tools, not shortcuts to quick profits.
Types of Derivatives in India
1️⃣ Futures Contracts
A futures contract is an agreement to:
- Buy or sell an asset
- At a fixed price
- On a specific future date
Key Points:
- Obligatory contract (must be settled)
- Traded in lots
- Requires margin
2️⃣ Options Contracts
Options give the right, not the obligation, to buy or sell an asset.
Types of Options:
- Call Option → Right to buy
- Put Option → Right to sell
Key Points:
- Buyer pays a premium
- Seller carries higher risk
- More flexible than futures
Futures vs Options (Simple Comparison)
| Aspect | Futures | Options |
|---|---|---|
| Obligation | Mandatory | Optional |
| Risk | High | Limited (for buyers) |
| Cost | Margin required | Premium paid |
| Complexity | Medium | High |
Margin & Leverage (Important Concept)
Derivatives allow you to:
- Control large positions with small capital
- This is called leverage
⚠ Leverage increases:
- Profit potential
- Loss potential
This is why derivatives are risky.
Who Should Use Derivatives?
Suitable for:
- Experienced traders
- Hedgers
- Investors with strong market understanding
Not suitable for:
- Beginners
- Long-term passive investors
- People seeking guaranteed returns
Common Beginner Mistakes in Derivatives
❌ Trading without understanding
❌ Over-leveraging
❌ Treating derivatives as gambling
❌ Ignoring risk management
Most retail losses in the market come from misuse of derivatives.
Can Derivatives Be Used Safely?
Yes — when:
- Used for hedging
- Risk is controlled
- Position size is managed
- Knowledge is strong
But they should be approached slowly and carefully.
Key Takeaways
- Derivatives are contracts, not ownership
- Futures and Options are the main types
- High risk, high complexity
- Not recommended for beginners
What Should You Read Next?
If you are new, it is better to move to:
👉 Mutual Funds
👉 ETFs
Derivatives should come much later in your learning journey.