Fair value is a tool used by investors to understand the relationship between
the value of futures contracts and the current price of a stock.
What is
the Value of the future contract?
Let's begin with the most important requirement: because futures are so highly leveraged (if you are holding one contract of the E-mini S&P 500, the notional
value of the futures contract is 50x the current index price), there's no doubt it can be a very risky asset class and you should only be trading with «risk capital», or money that you can stand to lose and won't affect your lifestyle if you do.
The value of a futures contract is zero at the moment it is established, but changes thereafter until time T, at which point its value equals ST - Ft, i.e., the current cost of the stock minus the originally established cost of the futures contract.
These risks include (i) leverage risk (ii) risk of mispricing or improper valuation; and (iii) the risk that changes in
the value of the futures contract may not correlate perfectly with the underlying index.
Margins, sometimes set as a percentage of
the value of the futures contract, must be maintained throughout the life of the contract to guarantee the agreement, as over this time the price of the contract can vary as a function of supply and demand, causing one side of the exchange to lose money at the expense of the other.
The notional
value of a futures contract is the value of the assets underlying the futures contract.
The initial margin is essentially a down payment on
the value of the futures contract and the obligations associated with the contract.
The amount is established by the exchange and is a percentage of
the value of the futures contract.
The value of a futures contract is derived from the cash value of the underlying asset.
What this means is on the final day of the contract, the buyer is paid the difference between
the value of the futures contract and the settlement price if the settlement price is higher than the value of the futures contract.
If
the value of the futures contract is greater than the settlement price, the seller is paid the difference.
While opening the door for shorting Bitcoin, Interactive will require that short positions deposit five times
the value of their futures contracts in order to protect the brokerage.