Chapter 8: What is Futures Expiry?

The date on which the contract period ends is known as the expiry date. After the expiry date, no further trades are allowed in the futures contract. 

The expiry date is mentioned in the contract specifications by the exchange. 

In Indian F&O markets, stock & index futures contracts expire on the last Thursday of the contract period. Index Future Contracts also have weekly expiry that happens every Thursday of the week. 

7.1 What Happens Post-Futures Contract Expiry?

At the Expiry, all market participants in the F&O markets have to opt for physical delivery of the underlying from the exchanges or settle the contracts in cash. 

If traders want to continue holding the long or short position, they can offset their trades and roll over their positions, to the next contract period of the same future contract. 

Rollovers are done by traders who want to extend their expiry date from the current month to a future date so they can continue to hold their long or short position in a futures contract. 

7.2 Possible Actions After Expiry of Futures Contract 

There are three possible actions taken after the expiration of contracts. 

1. Square-Off & Offset

A trader can square off positions and trigger cash settlement after offsetting their current positions. Liquidation or offsetting of a futures position is a widely used method of exiting an open position. 

A trader can square up an open position by taking a reverse trade under the same futures contract, nullifying any obligations under an earlier opened position. Let’s go back to Mr Nivesh’s example. 

He bought the futures at the start of the September but didn’t wait for the contract to expire to book Marked to Market (MTM) profits. He sold the same Reliance September futures, thus offsetting his long position by creating this short position.

Since he has booked MTM profits and his positions are nullified, he has neither obligation to purchase the shares nor make payments to the seller for the purchase. 99% of traders square up their positions on the F&O markets, the remaining 1% opt for physical delivery on the expiry of a futures contract.  

2. Rollover Open Positions 

Rolling over a futures contract position is a solution for traders who want to continue holding positions. Since future contracts expire every month, traders have no option but to carry forward their long or short position to the near month or far month contract. 

Rollovers of F&O contracts are executed on days closer to the expiry date. When the futures position rollover takes place, a trader simultaneously executes an offsetting (reversing) trade for the current futures position and opens a new future position with the expiration date in the next contract month. 

If the trader initially had a long position in the current month futures contract, he would initiate a short position to offset the current month futures contract. Simultaneously, he’d open a long position in the next month or the far month futures contract. 

It’s important to take positions simultaneously so that one can avoid the time gap between the trades. The time gap between the current position closure and the new position opening could result in slippages and a potential loss due to market movements.

Let’s again get back to Mr Nivesh’s example. Say Mr Nivesh strongly believes that the share prices of Reliance Ltd would continue to rise. But the issue is the September series was nearing expiry. 

If he wanted to resume his bullish position, he has to take physical delivery of shares and make full payment. This wouldn’t be acceptable to him as he would lose the margin benefit that the futures contract offered. 

He decides to roll over his position, by selling the current September future contract and buying the October futures contract and he may continue to do so for the coming months until he achieves his target or hits a stop loss based on his views. 

3. Settling the Futures Contract

When a few futures contracts remain open, what happens to them post-expiry? Well, open positions imply that buyers want physical delivery of the underlying asset and the sellers are obligated to deliver the underlying asset. 

The exchange plays a key role in such a two-way process (transfer of funds and physical delivery).

Traders can trade in the futures contract and buy & sell anytime during the tenure of the contract period, which is 1 month for stock futures and weekly or monthly for Index Futures. 

Traders who do not want the obligation of physical delivery need to square their long or short position by taking a reverse trade to their current open position before the expiry date. 

If a trader fails to adhere to the timeline, it is understood that the trader will hold the contract until expiry and shall fulfil all the obligations to the contract as prescribed. 

The above-mentioned actions are at the discretion of the trader, who has complete freedom to freely enter and exit (provided he has sufficient margin balance as prescribed by the exchanges) during the contract period of the futures contract. 

7.3 Settlement Process in Stock Futures On Expiry 

Buyers and sellers for every contract are automatically matched via an electronic matching system set by the exchange, which executes the Pay out and Pay In. 

Payout

The exchange takes the money from the margin account of the buyer and gives it to the seller.

Pay In

The exchange takes delivery of the underlying stock from the seller and delivers it to the buyer’s Demat account.

The seller has to deliver the exact quantity of shares mentioned in the contract. Exchanges play a major role after the expiry of futures contracts as they are responsible for clearing and settlement of future contracts’ obligations. 

Since they perform the clearing and settlement for all the market participants, the buyers and sellers have to deposit margins, which act as collateral if any of the parties fail to honour the contract obligations thus eliminating counterparty risk.