An equity index futures that is traded on a regulated futures exchange. More specifically, it is a standardized futures contract that provides for the contracting party to make (if a short contract) or to receive (if a long contract) a cash payment based on the underlying price movement of a standardized basket of stocks over a specific period of time. Each party enters into the contract with the exchange, which acts as an intermediary (clearinghouse) to bring together and match long and short contracts, in the process marking the contracts to market on a daily basis. Each party has to post collateral (margin) to cover additional liabilities when arise.
If marking to market valuation is in favor of a party on a specific day, the clearinghouse will reduce margin requirements on that party and increase the same on the other. The margin mechanism provides a protection to the exchange and involved parties against credit risk resulting from a counterparty’s nonperformance.
Comments