A Beginners Guide to Cash and Futures Market in India

The term “Cash Market” and “Futures Market” might raise the eyebrows of the people who are completely new to the concept of stock Market. This article is an attempt to help the beginners to understand about these basic terminologies which are commonly used by people in the stock market.

Stock Market/Share Market in India

In India, we have 2 prominent stock exchanges which are as mentioned as follows

1) NSE – National Stock Exchange of India

2) BSE – Bombay Stock Exchange of India

                These stock exchanges are the medium/intermediary which facilitates people to buy/sell shares of their preferred companies. Basically, the stock brokers like the names of Sharekhan, Motilal Oswal, India Infoline etc., get registered with the stock exchange(s). And commonly people like you and me, can open an account with these brokers, so as to participate in the business of buying/selling shares. (Just like how one opens a bank account with a bank, so as to deal with his/her monetary transactions for day-day or business related activities)

In stock market, the commonly known 2 types of markets are

1) Cash Market (Equity Market) – It’s a market in which equity shares of the companies are bought/sold by the market participants like Mutual Funds, FII’s, and Ordinary Retail Investors/Traders.

               

For Ex: Let’s take a company i.e., Infosys. We all know its familiar company in India in the software sector. Now let’s say, one wants to buy the shares of Infosys (as the person is expecting the price of the share might go up in the upcoming years based on his/her own analysis) he can do it by placing a buy order in the terminal through his broker. And to buy these shares, he needs to have the required cash in his brokerage account.

2) Futures Market – It’s a market in which Futures contract of the companies/commodities/currencies are traded by the market participants. A Futures Contract is an agreement between two parties to buy or sell a specified quantity of an asset at a specified price and at a specified time and place.

They are normally traded on an exchange which sets the standardized norms for the futures contracts. In futures contracts, one can go long (buy)/go short (sell) without owning the asset.

All Futures contracts in the NSE segment is settled on a cash basis, whereas Futures contracts traded in the MCX allows a person to take physical delivery of the asset on the contract expiry date, if the buyer wishes for the same.

For e.g., if one had bought a Gold contract, then he/she can take physical delivery of the same on the contract expiry date by paying the total value of the contract, whereas in NSE, if one had bought a INFOSYS futures contract, no delivery of shares will take place to the buyer, rather the contract is settled on a cash basis on the expiry date.

(Note: All Futures Contract comes with an Expiry date, beyond which the contract ceases to exist. For ex. Infosys Futures Contract for the month of August will expire on the last Thursday i.e., 27^th August (this expiry date is determined by the stock exchange)

Difference between Cash Market and Futures Market

	Cash Market	Futures Market
Dividend	By Buying & Holding shares in the Cash Market/Equity Market, one can receive dividend as and when a company declares it. Like if one is holding shares of Tata Steel in Cash Market, and if the company declares a dividend, then one is entitled to receive the dividend amount into his bank account	By holding shares in the Futures Market, one won’t be able to receive dividend declared by the company
Margin	To take delivery of shares, 100% cash is required. For ex; if one decides to buy 5000 shares of XYZ Ltd., in Cash Market which is trading at Rs.100, then Rs.5,00,000 has to be there in the brokerage account	One can take position, by having 20% of the total amount in his account. For ex; if one decides to buy 5000 shares of XYZ Ltd., in Futures Market which is trading at Rs.100, then approximately 20% of Rs.5,00,000 = Rs.1,00,000 has to be there in the brokerage account
Expiry	There is no expiry period in cash market. If one buys the shares, he/she can continue to keep holding as long as he/she wants to	All contracts come with an Expiry Period, beyond which the contract ceases to exist. For ex., If one buys Tata Steel August Futures Contract, it will get expired on the last Thursday of August. So, if one wants to continue holding the long position after expiry, then one has to buy the next month contract on the expiry day
Lot Size	In cash market, one can buy as many shares as he wants to buy like 5 shares or 50 shares or 400 shares or 610 shares etc.,	In Futures Market, one can buy only in lot sizes which are prescribed by the exchange from time to time. For ex: 1 Lot of Tata Steel in Futures Market comprises of 1000 shares
Overnight Shorts	If one expects price to go down in the next couple of days, he won’t be able to go short (selling now and buying later) now and buying it back in the next couple of days	If one expects price to go down in the next couple of days, one can able to go short (selling now and buying later) now and buying it back in the next couple of days

Advantage of Cash Market

·         It’s ideal for people who are entering stock market with small capital (Like one can begins investing/trading by having Rs.10,000 in his/her account)

·         One can buy shares starting from very small quantity like 5 shares, 10 shares etc., as per his/her capital availability

·         If one holds shares in the Cash Market, he gets an ownership in the company, and therefore he is entitled to receive the benefits like dividend, bonus issues etc., as declared by the company from time to time

Advantage of Futures Market

·           Futures Market gives the flexibility to go long (buying) as well as to go short (selling) on an overnight basis. (One can go short in a futures contract on Monday and can buy it back on next Monday)

·           Rather than having 100% cash, it’s enough, if one has 20% cash in his account to take position in the futures market, while the rest of 80% cash can remain in his/her bank account, which yields small interest as well. (If one has a total capital of Rs.5,00,000, and to buy 5000 shares of XYZ Ltd., which is trading at Rs.100, one is required to have around Rs.1 Lakh (assuming 20% Margin) only. The  rest of the capital Rs.4,00,000 can be placed in a bank account and can be transferred to the brokerage account, as and when its required)