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Basics of Derivatives

Payoff from Futures

In this section, we will discuss 'Payoff,' i.e., the likely profit or loss that would occur with a change in the underlying asset's price. We will specifically learn the payoffs structure for futures contracts for both long and short positions. 

 

Long Position

 

A trader/ investor is said to be in a long position when he has entered into the contract to buy the underlying asset on the specified date at a specified price. Thus, the trader or investor will only benefit if the price of the underlying in the spot market will increase.

 

For example, a trader goes long on the Nifty futures. He has a bullish view of the market and decides to buy 10 lots of Nifty futures contracts at 17200. However, if on expiry, the Nifty turns out to be 17800, then the trader would gain (17800-17200)*50* 10, i.e. ₹3,00,000

 

Payoff diagram for Long positions

 

Short Position

 

A trader is said to be in a short position when he has entered into a contract to sell the underlying asset on a specified date at a specified price. The trader or investor will only benefit if the price of the underlying asset in the spot market will decrease. 

 

For example, if a trader holds a bearish view on the market and decides to sell 10 lots of Nifty at 17200. Suppose the value of Nifty happens to turn out at 17100 on the expiry. The trader will make a profit of (17100 -17200)*50*10 = ₹50,000.

 

If on expiry, Nifty turns out to be 17300, then instead of the profit, the trader would incur a loss of (17200 -17300)*50*10 = - ₹50,000.

 

Payoff diagram for Short positions

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Units 7/20