What is physical delivery?

What is physical delivery?

Understanding Physical Delivery in Derivatives Trading

Physical delivery refers to the actual transfer of the underlying asset—such as stocks, commodities, or bonds—when an options or futures contract reaches its expiration. Unlike cash settlement, where only the profit or loss is settled in cash, physical delivery involves delivering the real asset as specified in the contract.

1. What is Physical Delivery?

At contract expiry, the seller is obligated to deliver the actual underlying asset to the buyer, as per the terms of the contract.

2. Types of Underlying Assets:

* Stocks: Shares of publicly traded companies
* Commodities: Physical goods like gold, oil, or agricultural products
* Bonds: Debt instruments issued by corporations or governments

3. Specified Delivery Date:

This is the date by which the actual asset must be delivered, as outlined in the contract.

4. Physical Delivery vs. Cash Settlement:

* Physical Delivery: Involves transferring the actual asset between buyer and seller.
* Cash Settlement: Only the price difference is paid out in cash—no asset changes hands.

5. How the Process Works:

* Futures Contracts: Upon expiry, the seller delivers the asset, and the buyer pays the agreed contract price.
* Options Contracts: If exercised:

* For call options, the seller delivers the asset to the buyer.
* For put options, the buyer delivers the asset to the seller.

6. Common Use Cases:

* Hedging: Commodity producers or consumers may use physical delivery to lock in prices and protect against volatility.
* Investment: Some investors prefer receiving the actual asset, especially in the case of commodities or stocks.

Example Scenarios:

* Gold Futures: An investor holding a gold futures contract to expiration may receive physical gold, if specified.
* Stock Options: An exercised call option for 100 shares will result in the buyer receiving those 100 shares if physical delivery is applicable.

Note: At 5Paisa, physical delivery is available only in equity derivatives.

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