Last updated on April 11th, 2024 at 12:48 am
In this article, we are going to look into derivatives. Specifically, the 2 types of derivatives i.e Futures and Options. We will study both in details and then dive into the most asked question, the Difference between both i.e. Futures vs Options side by side.
Are you someone who trades in derivatives? Then you know how confusing the types of derivatives can be. This is because all are contracts with predetermined delivery dates, the changes are mostly in terms and conditions of every contract.
Before we jump onto the Futures vs Options comparison, let’s see the basics first. Starting with What are Derivatives –
What are Derivatives?
Derivatives can be said as a contract whose value depends upon the price of underlying assets such as market indexes and commodities. These contracts are traded on the secondary market. Derivatives can be traded in 2 ways – Over-The-Counter and Exchange trade.
To learn more about Derivatives, Read What are Derivatives in Stock Market? 4 types of derivatives – Best Trader’s Secret
As said before, before jumping onto the Futures vs Options comparison, we will study about Futures and Options. First ,let’s study about Future contracts
Future Contracts
A future contract is an agreement between 2 parties to trade in the near future. The price and the delivery date are decided while entering the contract. Future contracts are traded on Exchange Trade.
Options
Options are a contract between 2 parties to buy and sell assets at a pre-established date and price. Although there is a contract to trade, both parties are not constrained to complete the deal.
Now that we have the base set up, lets see the Futures vs Options comparison in detail
Futures vs Options
| Futures | Options | |
| Definition | Futures are standardized contracts where 2 parties agree to buy and sell assets on a pre-established date and price. They have to Commit to the delivery date and price. | Options are Standardized contracts where 2 parties agree upon trading at a pre-established delivery date and future price. The parties aren’t obligated to follow on the agreed contract. |
| Binding | Future contracts are binding where the parties have to trade on the agreed upon date | In options, parties can ignore the contact agreement if they want, there is no commitment involved. The deal can be completed before time if required. |
| Profit and Loss | Futures offer unlimited profit margin and unlimited loss levels. | Options also offer an umlauted profit and loss margin. The key difference is that in options, the risk of loss can be reduced. |
| Start up Money | For future contracts, there is no starting fee required. | For option traders, they have to pay an entry fee for the contract. This enables the buyer to back out from the contract. |
| Risk factor | As Futures offer unlimited Profit margin, it does come with a high risk margin as well. | Although the profit margin is unlimited, the risk is Finite. |
| Liquidity | Future contracts are considered as the uncontaminated form of derivatives. It’s as if the asset is present in reality. Due to this, Futures are highly liquefiable. | Options are mixed and complicated derivatives. They offer less liquidity. |
Along with Futures vs Options Comparison, Also Read : Agency Trading vs Principal Trading : 2 Important Difference
FAQs
Which is more risky futures or options?
In future, you have to trade regardless of if you are at loss or not. On the other hand, if you know it’s a loss deal, you can call it off. In conclusion, Its simple to understand that Futures are riskier than Options.
Can I sell futures before expiry?
The answer is Yes. Futures offers a feature which allows you to sell Futures before its expiry date.
Is trading Futures more profitable than Options?
Futures offer an unlimited profit margin in exchange for unlimited losses, meanwhile Options offer high return with Limited risks. So if you are a risk lover, Yes, Future can be more profitable.
What are the advantages of options over futures?
Future contract is obligated to trade at a pre established date and price. Even though Options are the same, The entry fee during options allows the buyer to back off from the contract and avoid potential losses.
Closing Statement
Futures and Options, both are excellent ways of trading depending on the level of risk you are willing to take. I’ve explained how they differ and what factors are the key factors which create the difference.
Now, you are aware about the Difference in Futures vs Options, it should be easy to make decisions regarding what derivatives you wanna invest in.
I hope this article about The comparison of Futures vs Options was informative for you. If there are any doubts or suggestions, commit it to the box box.
“Let’s Achieve Financial Freedom”