Nifty Futures Benefits and Advantages

The Nifty Futures is a particularly special instrument within the Indian derivative market. It is known as the most traded and liquid of all futures contracts and even makes it among the top 10 index futures contracts across the world. 

When you are settled with trading futures, it is likely that you will be keeping an eye on this contract in particular. Therefore, prior to moving forward, please take a few moments to review knowledge about the Index which we already talked about.

I assume you have a grasp on the index basics, so I’ll move on to talking about Nifty Futures or Index Futures.

We know that the futures instrument derives its value from an underlying asset. In regards to Nifty Futures, this would be the movements of their Index. Thus, when the Nifty Index increases in value, so does its futures. Conversely, a decline in the Index will cause a decrease in the futures as well.

Nifty Futures is available in three different variants, which are current month, mid-month, and far month. I have distinguished them by highlighting them in red. At the moment of writing this snapshot, the Nifty Futures rate per unit was Rs. 11,484.9 while the spot index value was Rs. 11,470.70. This disparity between both prices is explained by futures pricing mathematics, which will be thoroughly discussed in the following chapter.

Further, if you notice the lot size here is 75. We know the contract value is –

CV = Futures Price * Lot Size

= 11484.90 * 75

= Rs.861,367/-

These are the margin rules for trading Nifty Futures.

This overview of Nifty Futures should have provided you with the basics. Its liquidity is one of the many reasons why it is so well-liked, so let us move on to examining what it means and how it can be determined.

 – Impact Cost

The National Stock Exchange (NSE) defines Impact Cost as the cost that must be paid by either a buyer or seller when completing a transaction for a particular security. This metric is used to assess market liquidity and provides a more accurate assessment of trading costs than the bid-ask spread. Additionally, it is measured separately for buyers and sellers and varies according to the size of the trade. Impact Cost is volatile and keeps changing based on the order book. Certain indices such as Nifty 50 or Nifty 500 have an Impact cost threshold requirement to be eligible for inclusion – further details can be found in the respective Index Methodology documents.

The formula for ascertaining the cost of impact is this:

Ideal Price = (Best Buy Price in Orderbook + Best Sell Price in Orderbook) / 2

Actual Buy Price = Sum of (Quantity * Execution Price) / Total Quantity

Impact Cost (for that particular quantity) = (Actual Buy Price – Ideal Price) / Ideal Price * 100

To explain this using an example, let us consider Infosys –

Let’s suppose a person wants to buy 350 quantities of Infosys. Now let us calculate the impact cost for this transaction –

Ideal Price = (1657.95+1658)/2 = 1657.975 ~ 1657.98

Actual Buy Price = (15*1658) + (335*1658.20) / 350 = 1658.19143 ~ 1658.19

Impact Cost for buying 350 shares = ((1658.19 – 1657.98) / 1657.98) * 100 = 0.012%

The few key messages that I want you to take away from this discussion are these –

1. Impact cost gives a sense of liquidity
2. The higher the liquidity in a stock, the lesser is the impact cost
3. The spread between the buying and selling price is also an indicator of liquidity
   1. Higher the spread, the higher the impact cost
   2. Lower the spread, the lower is the impact cost
4. Higher the liquidity, lesser the volatility
5. If the stock is not liquid, placing market orders is not a great idea