NISM Series IV · Chapter 3: Exchange Traded Interest Rate Futures

L1 · Foundation

Foundation — Interest Rate Futures, the vocabulary and the pay-off

Why futures were invented and how they differ from forwards; India's three attempts at exchange-traded IRF and why the first two failed; the full futures vocabulary from underlying and tick size to open interest and rollover; long, short and open positions; and the linear, symmetric pay-off of long and short futures.

30 min read · Worth 20% of the paper · Written from pages 103–129 of the official NISM workbook · Updated 18 September 2026

Chapter 3 — Exchange Traded Interest Rate Futures

This is the single heaviest chapter in the Series-IV workbook: 20% weightage. Roughly one question in every five comes from here. The contract specification tables in particular are pure memory marks — learn them and you bank them.

1. What a futures contract is

The clearing corporation guarantees settlement of trades done on the exchange
A trader who buys futures generally takes a long position; one who sells takes a short position
⚠️ The words "buy" and "sell" are figurative only — no money or underlying asset changes hands between buyer and seller when the deal is executed

1.1 Features of a futures contract

That one sentence explains everything else:

Contract between two parties through the Exchange
Centralised trading platform — the exchange
Price discovery through free interaction of buyers and sellers
Margins are payable by both parties
Expiry date decided today (standardised)
Quantity decided today (standardised lot size)

2. Interest Rate Futures in India — three attempts

The workbook makes a candid observation. For banks, financial institutions and businesses, exposure to rupee interest rate risk is much more severe than to currency risk and equity risk. One would therefore expect the interest rate derivatives market to be larger than currency and equity derivatives. Yet in India, interest rate derivatives took off only in the third attempt, in 2014. The OTC market has been successful with good volumes in interest rate swaps (Overnight Index Swaps), but exchange-traded IRD had not been so successful.

Attempt	When	What was launched	What happened
First	June 2003	Three futures: on the 91-day Treasury Bill, a 6% 10Y notional bond, and a zero-coupon 10Y notional bond of GOI	Not successful — contracts withdrawn soon thereafter
Second	August 2009	Bond futures on a notional 7% 10Y GOI bond	Not adopted by the market, because settlement was on a "cheapest-to-deliver" basis
(interim)	March 2011	Another futures on the 91-day Treasury bill, followed by futures on 2Y and 5Y bonds	—
Third — the success	December 2013 guidelines; product from 2014	Cash settled IRF on 10-year GOI Securities — a cash settled single bond futures based on the on-the-run 10-year GOI bond	Has been a success

What came after:

June 2015 — SEBI and RBI permitted exchanges to launch IRF on 6-year and 13-year GOI securities
Exchanges also launched IRF based on money market instruments
SEBI circular no. SEBI/HO/MRD/MRD-PoD-3/P/CIR/2023/11 dated January 10, 2023 stipulated guidelines for "Introduction of futures contracts on Corporate Bond Indices"

Overall, exchange-traded derivatives have been more successful in equity and currency than in interest rate markets in India — but there is a lot of scope for growth in IRF.

⚠️ This "three attempts" story is very examinable. Lock in: 2003 failed, 2009 failed because of cheapest-to-deliver, 2013 guidelines gave the cash-settled 10-year product that finally worked.

3. The futures vocabulary

Learn these as definitions — the paper often quotes them almost verbatim.

Underlying Asset. For IRF the underlying can be an interest rate (e.g. Overnight MIBOR), an interest-bearing instrument (Government Securities), an index of interest-bearing instruments (8–13 year G-Sec index, corporate bond index), or a notional security (10Y notional GOI security).

Spot price/rate. The price or interest rate at which the underlying trades in the spot market.

Futures price/rate. The current price or rate of the specified futures contract.

Quantity Freeze. Quantity freeze limits are the maximum number of contracts/lots for an index that can be traded in a SINGLE ORDER. Set by stock exchanges to maintain market stability by preventing large unintended orders that could distort prices, and to reduce the chance of "fat finger" errors.

Contract Cycle. The period over which a contract trades. IRF contracts can be monthly, quarterly, and in some cases weekly. For monthly contracts: the contract maturing in the immediate month is the near month; the next month is the mid-month; the subsequent month is the far month. Contracts can extend up to one year. For single bond G-sec futures the cycle is three serial monthly contracts followed by three quarterly contracts of the March/June/September/December cycle.

Expiry date. Also called the last trading day — the day trading ceases in the contract. If the expiry date is a trading holiday, the contract expires on the day before. For single bond G-sec futures, monthly expiry is the last Thursday of the month.

Tick Size. The minimum move allowed in price/rate quotations. If the tick size for single bond futures is Rs 0.0025, prices move in multiples of that — Rs 99.9975, Rs 100.0000, Rs 100.0025.

Contract Size / Lot Size. Futures trade in lots. Contract size specifies the minimum amount of asset that has to be delivered for a single contract.

Contract Value. Multiply the price/rate by the contract multiplier / lot size / contract size.

Trading Hours. The time during which trading is allowed on the exchange platform.

Base Price. Generally acts as the reference price for trading at the start of the day. On the first day of trading of a contract it is the theoretical futures price. On subsequent trading days it is the daily settlement price as computed by the Clearing Corporation.

Price Band. The maximum and minimum price for the day within which the contract can be traded, generally specified as a +/− % of the base price. In many derivatives contracts there is no price band; in such cases a dummy operating range is set to avoid erroneous order entry at non-genuine prices, and this dummy range is relaxed in the direction of the price movement.

Mark to Market (MTM). Positions in futures for each member are marked to market to the daily settlement price at the end of each trade day. The exchange/CC collects these MTM margins from the loss-making participants and pays them to the gainers on a day-to-day basis.

Daily Settlement Price (DSP). Required mainly for MTM settlement. It is the volume weighted average futures price (VWAP) of trades generally in the last 30 minutes of trading (i.e. the close price); if the close price is not available, the theoretical price is used.

Final Settlement Price (FSP). All open positions on the last trading day are marked to the final settlement price and settled on final settlement day. FSP is mainly derived from the underlying market.

Final Settlement. Can be cash settled or physically settled. In cash settlement only the profit and loss resulting from positions is paid or received. In physical settlement participants must give or take delivery of bonds.

Open Interest. The total number of contracts outstanding (yet to be settled) for an underlying asset. ⚠️ The number of long futures always equals the number of short futures, so only ONE side is counted when calculating open interest. The level of open interest indicates depth in the market.

4. Positions

Long position — an outstanding/unsettled buy position. Buy 5 contracts of single bond futures → long on 5 contracts.

Short position — an outstanding/unsettled sell position. Sell 5 contracts → short on 5 contracts.

Open position — any outstanding/unsettled long or short position across contracts. The workbook's example: Mr X shorts 5 contracts of 6.10% GOI bond futures and longs 3 contracts of 91-day T-Bill futures — his open position is short 5 GOI bond futures and long 3 T-Bill futures. If the next day he sells 2 T-Bill futures of the same maturity, his open position becomes short 5 GOI bond futures and long 1 T-Bill future.

Opening a position — buying or selling a contract which increases the client's open position.

Closing a position — buying or selling a contract which reduces the client's open position. A client closes a position by selling a contract bought earlier, or buying a contract sold earlier.

Rollover of position. Carrying forward an existing futures position to the next expiry cycle — closing the current month's contract and simultaneously opening a new position in the next month's contract. It extends the trading horizon beyond the current expiry.

Rollover is typically expressed as a percentage of total positions
There are no specific benchmarks for rollovers; they are compared against historical data, generally the trailing three-month average
Lower-than-average rollover signals uncertainty; higher rollovers indicate strong sentiment and ongoing momentum.

4.1 Seven important points about futures

All open futures positions are subject to MTM
Futures positions can be offset by taking an opposite position (square off)
Participants may roll over to continue a position
Traders need to track positions regularly
The trader is solely responsible for maintaining margins
Futures trade is a ZERO SUM equation — the profit of a trader is exactly equal to the loss of the opposite trader
Futures trade offers unlimited profit and unlimited losses

5. Pay-off charts

In futures contracts, BOTH long and short positions have unlimited profit or loss potential. This results in LINEAR pay-offs.

5.1 Long futures

Go long at Rs 100 — you have agreed to buy the underlying at Rs 100 on expiry.

Underlying at expiry is Rs 101 → buy at 100 under the contract, sell in the cash market at 101 → profit Rs 1
Underlying at expiry is Rs 99 → buy at 100 under the contract, sell in the cash market at 99 → loss Rs 1
If it is a cash settled futures contract, the participant simply receives or pays the profit/loss amount — Rs 1 in this example

Market price at expiry	Long futures pay-off
98.00	−2.00
98.50	−1.50
99.00	−1.00
99.50	−0.50
100.00	0.00
100.50	+0.50
101.00	+1.00
101.50	+1.50
102.00	+2.00

A long futures position makes profits when prices rise.

⚠️ A neat detail about the chart itself: the X-axis is not drawn on the left-hand side, because prices cannot go below zero. Profits are plotted upward, losses downward.

5.2 Short futures

Go short at Rs 100 — you have agreed to sell the underlying at Rs 100 on expiry.

Underlying at expiry is Rs 99 → buy in cash market at 99, sell at 100 under the contract → profit Rs 1
Underlying at expiry is Rs 101 → buy in the cash market at 101, sell at 100 under the contract → loss Rs 1

Market price at expiry	Short futures pay-off
98.00	+2.00
98.50	+1.50
99.00	+1.00
99.50	+0.50
100.00	0.00
100.50	−0.50
101.00	−1.00
101.50	−1.50
102.00	−2.00

A short futures position makes profits when prices fall.

That word "symmetrical" is doing work. Compare it with an option, where the buyer's loss is capped at the premium: futures give unlimited profit and unlimited loss on both sides, in a perfect straight line. This is exactly why futures hedge (eliminating risk in both directions) while options insure (killing only the downside).

⚠️ A caution for bond futures: "prices rise" and "rates rise" are opposite events. A long bond futures position profits when bond prices rise, which means when yields fall. Keep the Chapter 1 inverse relationship in your head every time you read a bond futures pay-off.

Think of it like this

Standardisation — the railway ticket versus the private taxi

Booking a private taxi to Nashik is a forward contract. You negotiate the price, the pick-up time, the exact car, the route. Perfectly customised — and if the driver does not turn up, your only recourse is against him personally.

Booking a railway ticket is a futures contract. You do not negotiate anything except which seat is free at the listed fare. The railway decides everything: the departure time, the coach, the class, the fare structure. You decide only whether to buy at the price on offer.

That is exactly the workbook's line: "In the futures market, the exchange decides all the contract terms of the contract other than price." Standardised expiry, standardised lot size, centralised platform, price discovered by free interaction of buyers and sellers — and a guarantee that does not depend on trusting the person on the other side.

Why the second attempt failed — the "cheapest to deliver" problem

Imagine you sell a contract promising to deliver "a good quality mango" in June, and the rules let you, the seller, choose which mango from a whole basket of eligible varieties. What will you deliver? The cheapest one that still qualifies.

Now the buyer cannot really price the contract, because he does not know which mango he will receive. He has to guess which one will be cheapest in June — and that guess changes as prices move.

That is the cheapest-to-deliver problem that killed India's August 2009 bond futures on a notional 7% 10Y GOI bond. The workbook lists it alongside physical settlement and the Zero Coupon Yield Curve as the design flaws that made every pre-December-2013 product fail.

The fix, in December 2013, was to remove all three at once: a cash settled single bond futures on the on-the-run 10-year GOI bond. One specific bond, no delivery option, no curve to argue about. It worked.

Open interest — counting couples, not people

At a dance, if forty people are on the floor in pairs, how many dances are in progress? Twenty, not forty. You count the pairs, not the individuals.

Open interest works exactly the same way. Every futures contract has a long on one side and a short on the other, so the total number of long futures always equals the total number of short futures. Counting both would double-count every contract, so only one side is considered when reporting open interest.

And, like a crowded dance floor, the level of open interest indicates depth in the market — how much genuine outstanding commitment is sitting in that contract.

Rollover — extending the season ticket

Your local train season ticket expires on 31 October. You still commute daily, so on 30 October you surrender the old one and buy a fresh one for November. Same journey, new ticket.

That is a rollover: closing the current month's position and simultaneously opening a position in the next month's contract, to carry your view past the expiry date.

The market reads the aggregate the way a station master would read the queue at the counter. Higher-than-average rollover means most commuters are renewing — strong sentiment, momentum continuing. Lower-than-average rollover means many are not renewing — uncertainty. And since there is no official benchmark, everyone compares against the trailing three-month average.

A futures trade is a see-saw, not an investment

Two children on a see-saw. When one goes up, the other must come down — by exactly the same amount. Nobody can rise unless somebody falls.

"Futures trade is a ZERO sum equation, i.e. profit of a trader is exactly equal to loss of opposite trader." Every rupee the long makes on a GOI bond futures contract is a rupee the short lost, and the clearing corporation moves it across each evening through mark-to-market.

Two things follow directly. First, futures offer unlimited profit AND unlimited losses — you can be on either end of the plank. Second, the trader is solely responsible for maintaining margins, because the money genuinely moves every single day, not just at expiry.

Contrast this with buying a bond: there, both you and the issuer can end the year happy. In futures, that is arithmetically impossible.

Key terms in this chapter

91-day T-Bill futures quotation: Quoted as 100 minus the futures discount yield, so a 5% discount yield gives a price of 95.0000. Contract value is 2000 × (100 − 0.25 × y), the 0.25 being the quarter-year fraction.
Base price: The reference price at the start of the trading day. On the first day of a contract it is the theoretical futures price; on every later day it is the daily settlement price computed by the clearing corporation.
Basis: The difference between spot price and futures price. Futures above spot gives a negative basis (contango); futures below spot gives a positive basis (backwardation). Bond futures usually show a positive basis.
Basket of eligible bonds: The set of GOI securities whose yields determine the final settlement price of a cash settled notional bond future — 8 to 11 years residual maturity for the 10-year, 1.5 to 2.5 years for the 2-year and 4.5 to 5.5 years for the 5-year contract.
Cash and carry pricing: Futures bond price = cash price + financing cost − income on cash position, derived from the assumption of no arbitrage between the underlying and the futures market.
Cheapest-to-deliver: A settlement design that lets the seller choose which eligible bond to deliver, so the buyer cannot price the contract confidently. It is the flaw that killed India's August 2009 bond futures.
Contract cycle: The period over which a contract trades. For single bond G-sec futures it is three serial monthly contracts followed by three quarterly contracts of the March/June/September/December cycle.
Contract value: Price or rate multiplied by the lot size or contract multiplier. It drives the margin amount, transaction charges and regulatory charges, so it is worth computing correctly.
Convergence: The principle that futures and spot prices meet at maturity, since at that instant no difference can exist. It is why every futures contract settles at the underlying cash market price on expiry, for every asset class.
Conversion factor: In the physically settled 10-year notional bond futures, the price of the deliverable security on the first of the delivery month calculated to yield 7% — used to equate bonds of different coupons and maturities.
Corporate Bond Index Futures (CBIF): Cash settled futures on indices of corporate debt rated AA+ and above, permitted by SEBI on 10 January 2023. The index needs at least 8 issuers, no issuer above 15%, no group or sector above 25% excluding PSUs, PFIs and PSBs, and a one-year track record.
Cost of carry (financing cost): The interest paid to finance or carry the underlying asset until the expiry of the contract. In the bond futures formula it is computed on the dirty price, not the clean price.
Credit agnostic: A listed advantage of exchange-traded futures: because everyone faces the clearing corporation rather than each other, a participant's own credit standing does not affect the price it is quoted.
Daily Settlement Price (DSP): The volume weighted average futures price of trades in the last 30 minutes of trading, used for MTM. If no close price is available, the theoretical price is used instead.
Deliverable grade securities: For the physically settled 10-year notional contract, GOI securities maturing at least 7.5 but not more than 15 years from the first day of the delivery month, with a minimum outstanding stock of Rs 10,000 crore.
Expectancy model: The view that the futures price is simply the expected spot price in the future, so futures can trade at a premium or a discount to spot and signal the market's expected direction — especially where the asset cannot be stored or sold short.
FIMMDA polling: The process by which the Fixed Income, Money Market and Derivatives Association determines the yields of basket bonds for settling the 2-year and 5-year notional bond futures.
Final Settlement Price (FSP): The price to which all open positions on the last trading day are marked, derived mainly from the underlying market — for GOI bond futures, the weighted average NDS-OM price over the last two hours.
Fisher effect: The proposition that, other things equal, a rise in expected inflation raises the nominal interest rate. It is why interest rate derivatives are the primary instruments available to households for hedging inflation risk.
Forward rate: The interest rate applicable to a transaction taking place in future, derived from spot rates on the no-arbitrage principle that a long investment and a rolled-over short one must give the same return.
Futures contract: A standardised forward traded through an organised exchange, with settlement guaranteed by the clearing corporation. The exchange decides every contract term except the price.
Impact cost: The cost of moving the price against yourself when executing an order. Exchange-traded interest rate futures generally have lower impact cost than the OTC alternative because contracts are standardised and liquid.
Income on cash position: For a bond, the accrued interest expected by expiry, plus any coupon received during the contract, plus interest earned on reinvesting that coupon.
Interest Rate Futures (IRF): Standardised exchange-traded contracts to buy or sell a notional security, any other interest-bearing instrument, or an index of such instruments or interest rates, at a future date at a price fixed today. Money market futures are included.
Market completion: The key public policy objective behind introducing IRF — expanding the set of hedging tools available to financial and non-financial entities against interest rate risk.
Mark to Market (MTM): The daily revaluation of every open position to the daily settlement price, with the exchange collecting from loss-makers and paying gainers day by day rather than waiting for expiry.
Near, mid and far month: The contract maturing in the immediate month is the near month, the next month is the mid-month and the one after is the far month. Contracts can extend up to one year.
Open interest: The total number of contracts outstanding and yet to be settled. Because longs always equal shorts, only one side is counted. Its level indicates the depth of the market.
Open position: Any outstanding, unsettled long or short position across derivative contracts. Opening a position increases it; closing a position — selling what you bought or buying what you sold — reduces it.
Pay-off: The profit or loss accruing to a participant as the underlying price changes at expiry, plotted with the underlying price on the X-axis and profit or loss on the Y-axis. Long futures profit when prices rise, short futures when prices fall.
Price band: The daily price range within which a contract may trade, set as a percentage of the base price — 3% for GOI bond futures, 1% for 91-day T-Bill futures. Where no band applies, a dummy operating range guards against erroneous orders.
Quantity freeze: The maximum number of contracts or lots that can be traded in a single order, set by exchanges to keep the market stable and to reduce the chance of fat finger errors.
Rollover: Closing the current month's contract and simultaneously opening the same position in the next month's contract, to carry a view past expiry. Compared against the trailing three-month average: low signals uncertainty, high signals momentum.
The five-trade rule: If fewer than five trades occur in the underlying bond during the last two hours of trading on NDS-OM, the FIMMDA/FBIL price is used for final settlement instead of a thin and manipulable weighted average.
Tick size: The minimum permitted move in a price or rate quotation. Rs 0.0025 for bond and T-Bill futures; 0.25 basis point for Overnight MIBOR futures.
Tick value: The rupee change in contract value for one tick. Rs 5.00 per lot on GOI bond futures, Rs 1.25 on 91-day T-Bill futures (the extra 0.25 factor), and Rs 102.75 on Overnight MIBOR futures.
Unit of trading (IRF): One lot equals notional bonds of face value INR 2 lakh — 2,000 bonds — for GOI bond futures and 91-day T-Bill futures. For Overnight MIBOR futures it is interest on a notional principal of Rs 5 crore for one month on a 30/365 basis.
Value of one basis point (MIBOR futures): Rs 411, being Rs 5 crore × 0.01% × 30/365. The contract value is the quoted rate × 100 × 411, and a quarter-basis-point tick is worth Rs 102.75.
Zero sum equation: The defining arithmetic of futures — one trader's profit is exactly another trader's loss. Both sides face unlimited profit and unlimited loss, which is why the pay-off is linear and symmetrical.

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Original explanatory writing based on the official NISM workbook for Series IV, which is published and copyrighted by NISM. Check figures against the current edition at nism.ac.in.

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