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Finance GlossaryInterest Rate Futures
Interest Rate Futures
Definition of Interest Rate Futures
Interest rate futures are derivative contracts whose underlying instrument is any instrument that bears interest.
Just like any other futures contract, interest rate futures also give the right and obligation to fulfil the terms of the contract on expiry.
The price of interest rate futures and the interest rate itself shares an inverse relationship. If interest rates move higher, then the futures will be less valuable.
Just like any other futures contract, interest rate futures also give the right and obligation to fulfil the terms of the contract on expiry.
The price of interest rate futures and the interest rate itself shares an inverse relationship. If interest rates move higher, then the futures will be less valuable.
Related Terms
Mutual Fund
A mutual fund is a financial instrument that collects funds from investors and invest in different assets, like equity, bonds, etc. A professional fund manager handles the investments, making it easier for individuals to invest and spread their risk without needing deep market knowledge.
Gross Domestic Product
The Gross Domestic Product is an economic measure of the financial value of all goods and services produced by a country during a specific time period.
Price Discovery
Price discovery is the process of determining the market price of an asset or security. It is a continuous, dynamic process that is driven by many factors such as supply and demand, investor sentiment, macroeconomic news, company-specific information, and market liquidity. In efficient markets, the forces of buying and selling naturally converge to establish a fair and current market price.
Fair Value
The fair value of a stock, product, or service is the price at which the buyer and seller willingly agree on without being on the losing end of the deal. Think of fair value as a win-win situation for both parties, assuming that all conditions are normal.
Say Mr. Apple is offered to buy shares of Mr. Orange’s company at Rs. 1000 per share. Mr. Apple evaluates the business and figures out that he can sell the same shares for Rs. 1200, even though Mr. Orange is content to sell the shares at Rs. 200 lower. Both parties agree on the deal at Rs. 1000 because both view it as a good deal.
The formula for the fair value of a stock or index is:
Fair Value = Cash * { 1 + r (X / 360)} - D
Where,
Cash = Latest stock or index value
r = interest rate on purchase
x = number of days to contract expiry
Dividend = Dividends
The definition of fair value is slightly different in the futures market. In the futures market, the fair value is reached when the supply meets the demand, which simply means that the spot price is equal to the futures contractprice.
However, due to inherent volatility of the markets, the price of a futures contract is known to fluctuate around the fair value of a stock or index. Thus, in the fair value in the context of futures is what the price of the contract should be, given the value of the stock or index, dividends, and others.
Say Mr. Apple is offered to buy shares of Mr. Orange’s company at Rs. 1000 per share. Mr. Apple evaluates the business and figures out that he can sell the same shares for Rs. 1200, even though Mr. Orange is content to sell the shares at Rs. 200 lower. Both parties agree on the deal at Rs. 1000 because both view it as a good deal.
The formula for the fair value of a stock or index is:
Fair Value = Cash * { 1 + r (X / 360)} - D
Where,
Cash = Latest stock or index value
r = interest rate on purchase
x = number of days to contract expiry
Dividend = Dividends
The definition of fair value is slightly different in the futures market. In the futures market, the fair value is reached when the supply meets the demand, which simply means that the spot price is equal to the futures contractprice.
However, due to inherent volatility of the markets, the price of a futures contract is known to fluctuate around the fair value of a stock or index. Thus, in the fair value in the context of futures is what the price of the contract should be, given the value of the stock or index, dividends, and others.
High Volatility Stocks
High volatility stocks are shares that fluctuate based on market conditions, typically more than others. The volatility could be a result of inherent fundamentals or other factors like the industry or domain. Identifying high volatility stocks is possible through indicators like Average True Range and Bollinger Bands.
Holding Company
A holding company is a parent organization that holds a controlling interest in one or more subsidiary companies. The goal of a holding company is not to create products or services but to hold financial securities, typically in the form of equity, in other companies that create products or services. For example, Raise Financial Services is a holding company while Dhan is its subsidiary.
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