This version is structured for deeper understanding and training purposes at ATS Academy, covering not just the concept, but also the regulatory evolution in India, practical implications for traders, and contract-specific distinctions with real examples.
Introduction
Futures contracts are agreements to buy or sell an underlying asset at a future date and predetermined price. But what happens when that "future date" arrives? That’s where settlement comes into play.
There are two primary methods of settlement:
Physical Settlement
Cash Settlement
The nature of the underlying asset and the rules of the exchange determine how a futures contract is settled. Understanding which contracts are physically settled and which are not is critical for risk management and compliance.
What is Physical Settlement?
In physical settlement, the contract is fulfilled by the actual delivery of the underlying asset.
The party who is long (buyer) receives the asset.
The short (seller) delivers it.
More common in:
Commodities (gold, crude oil, wheat)
Equities (stock futures in India)
Example:
If you hold 1 lot of Reliance Futures (250 shares) until expiry:
Long: You will receive 250 Reliance shares in your demat account.
Short: You must deliver 250 Reliance shares from your demat account.
What is Cash Settlement?
In cash settlement, no asset is exchanged.
Instead, P&L is transferred in cash based on the difference between contract price and final settlement price.
Example:
Buy Nifty Futures @ ₹22,000
Expiry closes at ₹22,250
Profit = ₹250 × 50 (lot size) = ₹12,500
You don’t get index units—only cash.
Settlement Types by Market Segment
Market Segment
Settlement Type
Explanation
Index Futures (e.g., Nifty, Bank Nifty)
Cash Settled
Cannot physically deliver an index
Stock Futures (e.g., Reliance, Infosys)
Physically Settled
SEBI mandates delivery if not squared off
Commodity Futures (e.g., Gold, Crude)
Mostly Physical
Delivery unless otherwise specified
Currency Futures (e.g., USD-INR)
Cash Settled
Based on RBI’s reference rate
SEBI’s Shift to Physical Settlement (India Context)
Until 2018: All F&O were cash settled.
2018: SEBI introduced phased physical settlement for stock derivatives.
2020 onwards: All stock F&O are compulsorily physically settled if held till expiry.
This aligns Indian markets with global practice and ensures discipline.
What Happens If You Don’t Exit Before Expiry?
Scenario
Outcome
Long Stock Futures
Must accept delivery of shares (need margin & demat)
Short Stock Futures
Must deliver shares (risk of auction penalty)
Index Futures
Automatically cash settled
Commodity Futures
Depends on contract terms
Trader Considerations: Risk & Impact
Parameter
Physical Settlement
Cash Settlement
Logistics
Requires demat & stock availability
No logistics
Risk
Delivery failure risk
Only financial
Margin Requirement
Higher near expiry
Consistent
Use Case
Better for hedgers
Preferred by speculators
Regulation
Complex
Simpler
Case Studies
Reliance Stock Futures (Physically Settled)
Holding 2 lots (500 shares) till expiry:
Long: Pay full value (₹2,800 × 500) → receive shares.