Parties Involved – Hedgers, Speculators & Arbitrageurs

The Futures market is a gathering of three tribes.

1. Hedgers (The Safety Seekers)

• Goal: To lock in a price.
• Example: An airline fears oil price rise. It buys Crude Oil Futures.
  • If Oil rises: Profit in Futures offsets loss in buying real fuel.
  • If Oil falls: Loss in Futures is offset by cheaper real fuel.
  • Net Result: Stable Cost.

2. Speculators (The Risk Takers)

• Goal: To make huge profits using Leverage.
• Example: Trader thinks Nifty will touch 25,000. He buys Nifty Futures.
  • He pays only 10% Margin.
  • If Nifty rises 1%, his Return on Investment is 10%.

3. Arbitrageurs (The Math Wizards)

• Goal: Risk-free profit from pricing errors.
• Example: Cash Nifty is 20,000. Future Nifty is 20,200. Fair Future price is 20,100.
  • He Sells Future (Expensive) and Buys Spot (Cheap).
  • He pockets the difference.

4. Exam Notes: Writing the Answer

Question: "Who are the participants in the Futures Market?" (5 Marks)

Answering Strategy:

1. List: Hedgers, Speculators, Arbitrageurs.
2. Define Speculator: Don't just say "Gambler". Say "Provides Liquidity and absorbs risk".
3. Interconnection: "Arbitrageurs keep the prices aligned."

Summary

• Volume: Speculators contribute 90% of the volume.
• Purpose: Hedgers provide the economic justification for the market.

Quiz Time! 🎯

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