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Need for the study:-

Financial Derivatives are quite new to the Indian Financial Market, but the derivatives market
has shown an immense potential which is visible by the growth it has achieved in the recent
past, In the present changing financial environment and an increased exposure towards
financial risks, It is of immense importance to have a good working knowledge of
Derivatives.

The Derivatives market in Hubli is still in a budding stage, It is necessary to study the
derivatives and derivative products and understand the derivative trading in India and try to
gather information regarding the Derivative products with special focused study on Future
and Options.

Objectives of the Study:-


To study the Derivative products with special reference to Future and Options,
and a detailed study of Options strategies used in Derivatives trading in India.

Sub Objectives:
• To study the trading procedures for Derivative products
• To study the basic knowledge about derivative market and options
• To study the clearing and settlement procedure of Derivatives products
• To study the option as a profit making strategy.
• To know the use of different strategies available in different market condition.

SOURCES OF DATA:
Secondary data
The data was collected through secondary sources. As this project was a descriptive study
conducted, there was no questionnaire used to collect primary data or any other additional
data. The secondary data source is through internet, from website of National Stock
Exchange

Secondary data will be collected from the various books on

Derivatives, Journals, Magazines and Internet.


Sample Design:
Sample unit: Motilal Oswal securities Ltd,Hubli
Sample Size: 2 sectors and 4 companies
The sectors covered under the study are:
1. Automobile sector
a. Maruti Udyog Ltd.
b. Tata Motors.
2. Cement sector
a. ACC
b. Gujarat Ambuja
INTRODUCTION:
BSE created history on June 9, 2000 by launching the first Exchange traded Index
Derivative Contract i.e. futures on the capital market benchmark index - the BSE Sensex.
The inauguration of trading was done by Prof. J.R. Varma, member of SEBI and chairman
of the committee responsible for formulation of risk containment measures for the
Derivatives market. The first historical trade of 5 contracts of June series was done on June
9, 2000 at 9:55:03 a.m. between M/s Kaji & Maulik Securities Pvt. Ltd. and M/s Emkay
Share & Stock Brokers Ltd. at the rate of 4755.

In the sequence of product innovation, the exchange commenced trading in Index Options on
Sensex on June 1, 2001. Stock options were introduced on 31 stocks on July 9, 2001 and
single stock futures were launched on November 9, 2002.

September 13, 2004 marked another milestone in the history of Indian Capital Markets, the
day on which the Bombay Stock Exchange launched Weekly Options, a unique product
unparallel in derivatives markets, both domestic and international. BSE permitted trading in
weekly contracts in options in the shares of four leading companies namely Reliance,
Satyam, State Bank of India, and Tisco in addition to the flagship index-Sensex.
Indian scenario
INDIAN DERIVATIVES MARKETS

1. Rise of Derivatives
The global economic order that emerged after World War II was a system where many less
developed countries administered prices and centrally allocated resources. Even the
developed economies operated under the Bretton Woods system of fixed exchange rates.
The system of fixed prices came under stress from the 1970s onwards. High inflation and
unemployment rates made interest rates more volatile. The Bretton Woods system was
dismantled in 1971, freeing exchange rates to fluctuate. Less developed countries like India
began opening up their economies and allowing prices to vary with market conditions.

Price fluctuations make it hard for businesses to estimate their future production costs and
revenues.2 Derivative securities provide them a valuable set of tools for managing this risk.
This article describes the evolution of Indian derivatives markets, the popular derivatives
instruments, and the main users of derivatives in India. I conclude by assessing the outlook
for Indian derivatives markets in the near and medium term.

2. Definition and Uses of Derivatives


A derivative security is a financial contract whose value is derived from the value of
something else, such as a stock price, a commodity price, an exchange rate, an interest rate,
or even an index of prices. In the Appendix, I describe some simple types of derivatives:
forwards, futures, options and swaps.
Derivatives may be traded for a variety of reasons. A derivative enables a trader to hedge
some preexisting risk by taking positions in derivatives markets that offset potential losses in
the underlying or spot market. In India, most derivatives users describe themselves as
hedgers (FitchRatings, 2004) and Indian laws generally require that derivatives be used for
hedging purposes only. Another motive for derivatives trading is speculation (i.e. taking
positions to profit from anticipated price movements). In practice, it may be difficult to
distinguish whether a particular trade was for hedging or speculation, and active markets
require the participation of both hedgers and speculators. A third type of trader, called
arbitrageurs, profit from discrepancies in the relationship of spot and derivatives prices, and
thereby help to keep markets efficient. Jogani and Fernandes (2003) describe India’s long
history in arbitrage trading, with line operators and traders arbitraging prices between
exchanges located in different cities, and between two exchanges in the same city. Their
study of Indian equity derivatives markets in 2002 indicates that markets were inefficient at
that time. They argue that lack of knowledge, market frictions and regulatory impediments
have led to low levels of capital employed.

Price volatility may reflect changes in the underlying demand and supply conditions and
thereby provide useful information about the market. Thus, economists do not view volatility
as necessarily harmful.

Speculators face the risk of losing money from their derivatives trades, as they do with other
securities. There have been some well-publicized cases of large losses from derivatives
trading. In some instances, these losses stemmed from fraudulent behavior that went
undetected partly because companies did not have adequate risk management systems in
place. In other cases, users failed to understand why and how they were taking positions in
the derivatives.
Derivatives in arbitrage trading in India. However, more recent evidence suggests that the
efficiency of Indian equity derivatives markets may have improved (ISMR, 2004).

3. Exchange-Traded and Over-the-Counter Derivative Instruments

OTC (over-the-counter) contracts, such as forwards and swaps, are bilaterally negotiated
between two parties. The terms of an OTC contract are flexible, and are often customized to
fit the specific requirements of the user. OTC contracts have substantial credit risk, which is
the risk that the counterparty that owes money defaults on the payment. In India, OTC
derivatives are generally prohibited with some exceptions: those that are specifically allowed
by the Reserve Bank of India (RBI) or, in the case of commodities (which are regulated by
the Forward Markets Commission), those that trade informally in “havala” or forwards
markets.

An exchange-traded contract, such as a futures contract, has a standardized format that


specifies the underlying asset to be delivered, the size of the contract, and the logistics of
delivery. They trade on organized exchanges with prices determined by the interaction of
many buyers and sellers. In India, two exchanges offer derivatives trading: the Bombay
Stock Exchange (BSE) and the National Stock Exchange (NSE). However, NSE now
accounts for virtually all exchange-traded derivatives in India, accounting for more than
99% of volume in 2003-2004. Contract performance is guaranteed by a clearinghouse, which
is a wholly owned subsidiary of the NSE.4 Margin requirements and daily marking-to-
market of futures positions substantially reduce the credit risk of exchangetraded contracts,
relative to OTC contracts.5

4. Development of Derivative Markets in India


Derivatives markets have been in existence in India in some form or other for a long time. In
the area of commodities, the Bombay Cotton Trade Association started futures trading in
1875 and, by the early 1900s India had one of the world’s largest futures industry. In 1952
the government banned cash settlement and options trading and derivatives trading shifted to
informal forwards markets. In recent years, government policy has changed, allowing for an
increased role for market-based pricing and less suspicion of derivatives trading. The ban on
futures trading of many commodities was lifted starting in the early 2000s, and national
electronic commodity exchanges were created.

In the equity markets, a system of trading called “badla” involving some elements of
forwards trading had been in existence for decades.6 However, the system led to a number
of undesirable practices and it was prohibited off and on till the Securities and A
clearinghouse guarantees performance of a contract by becoming buyer to every seller and
seller to every buyer.

Customers post margin (security) deposits with brokers to ensure that they can cover a
specified loss on the position. A futures position is marked-to-market by realizing any
trading losses in cash on the day they occur.

“Badla” allowed investors to trade single stocks on margin and to carry forward positions to
the next settlement cycle. Earlier, it was possible to carry forward a position indefinitely but
later the maximum carry forward period was 90 days. Unlike a futures or options, however,
in a “badla” trade there is no fixed expiration date, and contract terms and margin
requirements are not standardized.

Derivatives Exchange Board of India (SEBI) banned it for good in 2001. A series of reforms
of the stock market between 1993 and 1996 paved the way for the development of
exchangetraded equity derivatives markets in India. In 1993, the government created the
NSE in collaboration with state-owned financial institutions. NSE improved the efficiency
and transparency of the stock markets by offering a fully automated screen-based trading
system and real-time price dissemination. In 1995, a prohibition on trading options was
lifted. In 1996, the NSE sent a proposal to SEBI for listing exchange-traded derivatives.

The report of the L. C. Gupta Committee, set up by SEBI, recommended a phased


introduction of derivative products, and bi-level regulation (i.e., self-regulation by exchanges
with SEBI providing a supervisory and advisory role). Another report, by the J. R. Varma
Committee in 1998, worked out various operational details such as the margining systems.
In 1999, the Securities Contracts (Regulation) Act of 1956, or SC(R)A, was amended so that
derivatives could be declared “securities.” This allowed the regulatory framework for trading
securities to be extended to derivatives. The Act considers derivatives to be legal and valid,
but only if they are traded on exchanges.

Finally, a 30-year ban on forward trading was also lifted in 1999. The economic
liberalization of the early nineties facilitated the introduction of derivatives based on interest
rates and foreign exchange. A system of market-determined exchange rates was adopted by
India in March 1993. In August 1994, the rupee was made fully convertible on current
account. These reforms allowed increased integration between domestic and international
markets, and created a need to manage currency risk.

5. Derivatives Users in India


The use of derivatives varies by type of institution. Financial institutions, such as banks,
have assets and liabilities of different maturities and in different currencies, and are exposed
to different risks of default from their borrowers. Thus, they are likely to use derivatives on
interest rates and currencies, and derivatives to manage credit risk. Nonfinancial institutions
are regulated differently from financial institutions, and this affects their incentives to use
derivatives. Indian insurance regulators, for example, are yet to issue guidelines relating to
the use of derivatives by insurance companies.

In India, financial institutions have not been heavy users of exchange-traded derivatives so
far, with their contribution to total value of NSE trades being less than 8% in October 2005.
However, market insiders feel that this may be changing, as indicated by the growing share
of index derivatives (which are used more by institutions than by retail investors). In contrast
to the exchange-traded markets, domestic financial institutions and mutual funds have shown
great interest in OTC fixed income instruments. Transactions between banks dominate the
market for interest rate derivatives, while state-owned banks remain a small presence
(Chitale, 2003). Corporations are active in the currency forwards and swaps markets, buying
these instruments from banks.

Derivative security or derivative is a contract which specifies the right or obligation between
two parties to receive or deliver future cash flows (or exchange of other securities or assets)
based on some future event.

Another way of defining a derivative is that it is a security whose value is determined


(derived) from one or more other securities, commodities, or events. The value is influenced
by the features of the derivative contract, which may include the timing of the contract
fulfillment, the value of the underlying security or commodity, and other factors such as
volatility.

The payments between the parties may be determined by the future changes of:
 The price of some other, independently traded asset in the future (e.g., a common
stock)
 The level of some index (e.g., a stock index or heating-degree-days)
 The occurrence of some well-specified event (e.g., a company defaulting)

Some derivatives are the right to buy or sell the underlying security or commodity at some
point in the future for a predetermined price. If the price of the underlying security or
commodity moves into the right direction, the owner of the derivative makes money;
otherwise, they lose money. Depending on the definition of the contract, the potential loss or
gain may be much higher than if they had traded the underlying security or commodity
directly.

CLASSIFICATION OF DERIVATIVES:

Derivatives are basically classified based upon the mechanism that is used to trade on them.
They are:
 Over the Counter derivatives
 Exchange traded derivatives

The OTC derivatives are between two private parties and are designed to suit the
requirements of the parties concerned.
The Exchange traded ones are standardized ones where the exchange sets the standards for
trading by providing the contract specifications and the clearing corporation provides the
trade guarantee and the settlement activities
The OTC derivatives markets have the fallowing features compared to exchange traded
derivatives:

1. The management of the counter-party (credit) risk is decentralized and located within
the individual institutions,
2. There are no formal centralize limits on individual positions, leverages, or margining.
3. There are no formal rules for risk and burden sharing.
4. there are no formal rules or mechanism for ensuring market stability and integrity, and
for safeguarding the collective interests of market participants, and
5. The OTC contracts are generally are not regulated by regulatory authority and the
exchange’s self regulatory originations, although they are affected indirectly by national
legal systems, banking supervision and market surveillance.

Common examples of derivatives are:


 Forward contracts
 Futures contracts
 Options such as stock options
 Swaps

Some less common, but economically intriguing, examples are:


 Economic derivatives which pay off according to the state of the economy as measured
by national statistical agencies
 Weather derivatives.

Three types of investors trade in derivatives markets.


1) Hedgers: Hedgers enter the derivatives market to lock-in their prices to avoid exposure to
adverse movements in the price of an asset. While such locking may not be extremely
profitable the extent of loss is known and can be minimized.

2) Speculators: Speculators take positions in the market. They actually bet on the direction
of price movements. While profits could be extremely high, potential for losses are also
large.

3) Arbitrageurs: Arbitrageurs enter simultaneously into contracts in two or more markets to


lock in risk less profit. In India such gains are minimal as price differences on NSE and the
BSE are extremely small.

OPTIONS

What is an Option?
An option is a contract giving the buyer the right, but not the obligation, to buy or sell
an underlying asset (a stock or index) at a specific price on or before a certain date (listed
options are all for 100 shares of the particular underlying asset).

In detail an option is a contract whereby the contract buyer has a right to exercise a feature
of the contract (the option) at future date (the exercise date), and the seller has the obligation
to deliver the specified feature of the contract. Since the option gives the buyer a right and
the seller (also known as a writer) an obligation, the buyer has received something of value.
The amount the buyer pays the seller for the option is called the option premium.

The buyer will exercise his right only if it is favorable to him. If it is not, he will not exercise
his right because he has no obligation. Thus, the underlying asset moves from to another
only when the option is exercised. When it moves from one counterpart to another, its price
(in cash) must move in the opposite direction. The amount of price in cash is fixed at the
time of contract and is called the strike price or exercise price.

An option is a security, just like a stock or bond, and constitutes a binding contract with
strictly defined terms and properties. Listed options have been available since 1973, when
the Chicago Board Options Exchange, still the busiest options exchange in the world, first
opened.

The World With and Without Options


Prior to the founding of the CBOE, investors had few choices of where to invest their
money; they could either be long or short individual stocks, or they could purchase treasury
securities or other bonds.
Once the CBOE opened, the listed option industry began, and investors now had a world of
investment choices previously unavailable.

Options vs. Stocks

In order to better understand the benefits of trading options, one must first understand some
of the similarities and differences between options and stocks.

Similarities:
Listed Options are securities, just like
stocks.
Options trade like stocks, with buyers
making bids and sellers making offers.
Options are actively traded in a listed
market, just like stocks. They can be
bought and sold just like any other security.

Differences:
Options are derivatives, unlike stocks
(i.e, options derive their value from
something else, the underlying security).
Options have expiration dates, while stocks
do not.
There is not a fixed number of options, as
there are with stock shares available.
Stockowners have a share of the company,
with voting and dividend rights. Options
convey no such rights.

Option Feature
In other contracts, the focus is on underlying asset and each counterpart has right and
obligation (r&o) to perform. For example, in futures contract, the buyer has the right and
obligation to buy; and seller, the right and obligation to sell.
Option contract differs from others in two respects. The primary focus is on r&o, not on
underlying asset. Second, the r&o are separated, with buyer taking the right without
obligation (r w/o o) and seller taking the obligation without right. Thus, the distinguishing
feature of option is the right-without-obligation for the buyer.
In option contract, what the buyer buys is the right, not the underlying asset; and what the
seller sells is the right, not the underlying asset.
Exhibit 1: Option v Other Contracts

The option contract


For the option purchaser (also called the holder or taker), the option:
 Offers the right (but imposes no obligation),
 To buy (call option) or sell (put option)
 A specific quantity,
 Of a given financial underlying.
 At an agreed price (exercise or strike price), or calculable value (based on a reference
rate)
 Either before maturity date (American option) or at a fixed maturity date (European
option)
 For a premium (option price).
 The counterparty (option writer / seller) has an obligation to fulfill if the option holder
exercises the option. In return, the option seller receives the option price or premium.

1. We can exercise
the option, taking the
futures position at the
specified price.

2. We can offset the


We buy an option and Option, selling it back and
pay a premium for it. receiving the current
What exactly can we premium value.
do with it is;
3. We can let the
option expires.
Of course, we
lose the premium.

Call options

Call options give the taker the right, but not the obligation, to buy the underlying
shares at a predetermined price, on or before a predetermined date.

Illustration 1:

Raj purchases 1 Satyam Computer (SATCOM) AUG 150 Call --Premium 8


This contract allows Raj to buy 100 shares of SATCOM at Rs 150 per share at any
time between the current date and the end of next August. For this privilege, Raj pays a fee
of Rs 800 (Rs eight a share for 100 shares). The buyer of a call has purchased the right to
buy and for that he pays a premium.

Now let us see how one can profit from buying an option.

Sam purchases a December call option at Rs 40 for a premium of Rs 15. That is he has
purchased the right to buy that share for Rs 40 in December. If the stock rises above Rs 55
(40+15) he will break even and he will start making a profit. Suppose the stock does not rise
and instead falls he will choose not to exercise the option and forego the premium of Rs 15
and thus limiting his loss to Rs 15.

Let us take another example of a call option on the Nifty to understand the concept
better.

Nifty is at 1310. The following are Nifty options traded at following quotes.

Option contract Strike price Call premium


Dec Nifty 1325 Rs 6,000
1345 Rs 2,000

Jan Nifty 1325 Rs 4,500


1345 Rs 5000

A trader is of the view that the index will go up to 1400 in Jan 2002 but does not want
to take the risk of prices going down. Therefore, he buys 10 options of Jan contracts at 1345.
He pays a premium for buying calls (the right to buy the contract) for 500*10= Rs 5,000/-.

In Jan 2002 the Nifty index goes up to 1365. He sells the options or exercises the
option and takes the difference in spot index price which is (1365-1345) * 200 (market lot) =
4000 per contract. Total profit = 40,000/- (4,000*10).

He had paid Rs 5,000/- premium for buying the call option. So he earns by buying call
option is Rs 35,000/- (40,000-5000).

If the index falls below 1345 the trader will not exercise his right and will opt to
forego his premium of Rs 5,000. So, in the event the index falls further his loss is
limited to the premium he paid upfront, but the profit potential is unlimited.

Call Options-Long & Short Positions

When you expect prices to rise, then you take a long position by buying calls. You are
bullish. When you expect prices to fall, then you take a short position by selling calls. You
are bearish.

Put Options :
A Put Option gives the holder of the right to sell a specific number of shares of an
agreed security at a fixed price for a period of time. eg: Sam purchases 1 INFTEC (Infosys
Technologies) AUG 3500 Put --Premium 200. This contract allows Sam to sell 100 shares
INFTEC at Rs 3500 per share at any time between the current date and the end of August.
To have this privilege, Sam pays a premium of Rs 20,000 (Rs 200 a share for 100 shares).

The buyer of a put has purchased a right to sell. The owner of a put option has the
right to sell.

Illustration 2: Raj is of the view that the a stock is overpriced and will fall in future, but he
does not want to take the risk in the event of price rising so purchases a put option at Rs 70
on ‘X’. By purchasing the put option Raj has the right to sell the stock at Rs 70 but he has to
pay a fee of Rs 15 (premium).

So he will breakeven only after the stock falls below Rs 55 (70-15) and will start
making profit if the stock falls below Rs 55.

Illustration 3:

An investor on Dec 15 is of the view that Wipro is overpriced and will fall in future
but does not want to take the risk in the event the prices rise. So he purchases a Put option on
Wipro.

Quotes are as under:


Spot Rs 1040

Jan Put at 1050 Rs 10

Jan Put at 1070 Rs 30

He purchases 1000 Wipro Put at strike price 1070 at Put price of Rs 30/-. He pays Rs
30,000/- as Put premium.

His position in following price position is discussed below.

1. Jan Spot price of Wipro = 1020


2. Jan Spot price of Wipro = 1080

In the first situation the investor is having the right to sell 1000 Wipro shares at Rs
1,070/- the price of which is Rs 1020/-. By exercising the option he earns Rs (1070-1020) =
Rs 50 per Put, which totals Rs 50,000/-. His net income is Rs (50000-30000) = Rs 20,000.

In the second price situation, the price is more in the spot market, so the investor will
not sell at a lower price by exercising the Put. He will have to allow the Put option to expire
unexercised. He looses the premium paid Rs 30,000.

Put Options-Long & Short Positions

When you expect prices to fall, then you take a long position by buying Puts. You are
bearish. When you expect prices to rise, then you take a short position by selling Puts. You
are bullish.

CALL PUT OPTIONS


OPTIONS
If you expect a fall in
Short Long
price(Bearish)
If you expect a rise in price
Long Short
(Bullish)

SUMMARY:

CALL OPTION BUYER CALL OPTION WRITER


(Seller)
• Pays premium • Receives premium
• Right to exercise and buy • Obligation to sell shares if
the shares exercised
• Profits from rising prices • Profits from falling prices
or remaining neutral
• Limited losses, Potentially
unlimited gain • Potentially unlimited
losses, limited gain
PUT OPTION BUYER PUT OPTION WRITER
(Seller)
• Pays premium • Receives premium
• Right to exercise and sell • Obligation to buy shares if
shares exercised
• Profits from falling prices • Profits from rising prices
or remaining neutral
• Limited losses, Potentially
unlimited gain • Potentially unlimited
losses, limited gain
Option styles
Settlement of options is based on the expiry date. However, there are three basic styles
of options you will encounter which affect settlement. The styles have geographical names,
which have nothing to do with the location where a contract is agreed! The styles are:

European: These options give the holder the right, but not the obligation, to buy or sell the
underlying instrument only on the expiry date. This means that the option cannot be
exercised early. Settlement is based on a particular strike price at expiration. Currently, in
India only index options are European in nature.

eg: Sam purchases 1 NIFTY AUG 1110 Call --Premium 20. The exchange will settle
the contract on the last Thursday of August. Since there are no shares for the underlying, the
contract is cash settled.

American: These options give the holder the right, but not the obligation, to buy or sell the
underlying instrument on or before the expiry date. This means that the option can be
exercised early. Settlement is based on a particular strike price at expiration.

Options in stocks that have been recently launched in the Indian market are "American
Options". eg: Sam purchases 1 ACC SEP 145 Call --Premium 12

Here Sam can close the contract any time from the current date till the expiration date,
which is the last Thursday of September.

American style options tend to be more expensive than European style because they
offer greater flexibility to the buyer.

Option Class & Series

Generally, for each underlying, there are a number of options available: For this
reason, we have the terms "class" and "series".
An option "class" refers to all options of the same type (call or put) and style
(American or European) that also have the same underlying.

eg: All Nifty call options are referred to as one class.

An option series refers to all options that are identical: they are the same type, have
the same underlying, the same expiration date and the same exercise price.

Calls Puts
. JUL AUG SEP JUL AUG SEP
Wipro
1300 45 60 75 15 20 28
1400 35 45 65 25 28 35
1500 20 42 48 30 40 55

eg: Wipro JUL 1300 refers to one series and trades take place at different
premiums

All calls are of the same option type. Similarly, all puts are of the same option type.
Options of the same type that are also in the same class are said to be of the same class.
Options of the same class and with the same exercise price and the same expiration date are
said to be of the same series

Pricing of options

Options are used as risk management tools and the valuation or pricing of the
instruments is a careful balance of market factors.

There are four major factors affecting the Option premium:


• Price of Underlying
• Time to Expiry
• Exercise Price Time to Maturity
• Volatility of the Underlying

And two less important factors:

• Short-Term Interest Rates


• Dividends

Review of Options Pricing Factors

The Intrinsic Value of an Option

The intrinsic value of an option is defined as the amount by which an option is in-the-
money, or the immediate exercise value of the option when the underlying position is
marked-to-market.

For a call option: Intrinsic Value = Spot Price - Strike Price

For a put option: Intrinsic Value = Strike Price - Spot Price

The intrinsic value of an option must be positive or zero. It cannot be negative. For a call
option, the strike price must be less than the price of the underlying asset for the call to have
an intrinsic value greater than 0. For a put option, the strike price must be greater than the
underlying asset price for it to have intrinsic value.

Price of underlying

The premium is affected by the price movements in the underlying instrument. For
Call options – the right to buy the underlying at a fixed strike price – as the underlying price
rises so does its premium. As the underlying price falls so does the cost of the option
premium. For Put options – the right to sell the underlying at a fixed strike price – as the
underlying price rises, the premium falls; as the underlying price falls the premium cost
rises.

The Time Value of an Option

Generally, the longer the time remaining until an option’s expiration, the higher its
premium will be. This is because the longer an option’s lifetime, greater is the possibility
that the underlying share price might move so as to make the option in-the-money. All other
factors affecting an option’s price remaining the same, the time value portion of an option’s
premium will decrease (or decay) with the passage of time.

Note: This time decay increases rapidly in the last several weeks of an option’s life. When
an option expires in-the-money, it is generally worth only its intrinsic value.

Volatility

Volatility is the tendency of the underlying security’s market price to fluctuate either
up or down. It reflects a price change’s magnitude; it does not imply a bias toward price
movement in one direction or the other. Thus, it is a major factor in determining an option’s
premium. The higher the volatility of the underlying stock, the higher the premium because
there is a greater possibility that the option will move in-the-money. Generally, as the
volatility of an under-lying stock increases, the premiums of both calls and puts overlying
that stock increase, and vice versa.
Higher volatility=Higher premium

Lower volatility = Lower premium

Interest rates

In general interest rates have the least influence on options and equate approximately
to the cost of carry of a futures contract. If the size of the options contract is very large, then
this factor may take on some importance. All other factors being equal as interest rates rise,
premium costs fall and vice versa. The relationship can be thought of as an opportunity
cost. In order to buy an option, the buyer must either borrow funds or use funds on deposit.
Either way the buyer incurs an interest rate cost. If interest rates are rising, then the
opportunity cost of buying options increases and to compensate the buyer premium costs
fall. Why should the buyer be compensated? Because the option writer receiving the
premium can place the funds on deposit and receive more interest than was previously
anticipated. The situation is reversed when interest rates fall – premiums rise. This time it is
the writer who needs to be compensated.

OPTIONS PRICING MODELS


There are various option pricing models which traders use to arrive at the right value of the
option. Some of the most popular models have been enumerated below.

1. The Binomial Pricing Model

The binomial model is an options pricing model which was developed by William
Sharpe in 1978. Today, one finds a large variety of pricing models which differ according to
their hypotheses or the underlying instruments upon which they are based (stock options,
currency options, options on interest rates).

2. The Black & Scholes Model

The Black & Scholes model was published in 1973 by Fisher Black and Myron
Scholes. It is one of the most popular options pricing models. It is noted for its relative
simplicity and its fast mode of calculation: unlike the binomial model, it does not rely on
calculation by iteration.

The intention of this section is to introduce you to the basic premises upon which this
pricing model rests. A complete coverage of this topic is material for an advanced course

The Black-Scholes model is used to calculate a theoretical call price (ignoring


dividends paid during the life of the option) using the five key determinants of an option's
price: stock price, strike price, volatility, time to expiration, and short-term (risk free)
interest rate.
The original formula for calculating the theoretical option price (OP) is as follows:

Where:

The variables are:

S = stock price
X = strike price
t = time remaining until expiration, expressed as a percent of a year
r = current continuously compounded risk-free interest rate
v = annual volatility of stock price (the standard deviation of the short-term returns over one
year).
ln = natural logarithm
N(x) = standard normal cumulative distribution function
e = the exponential function

Lognormal distribution: The model is based on a lognormal distribution of stock


prices, as opposed to a normal, or bell-shaped, distribution. The lognormal distribution
allows for a stock price distribution of between zero and infinity (ie no negative prices) and
has an upward bias (representing the fact that a stock price can only drop 100 per cent but
can rise by more than 100 per cent).
Risk-neutral valuation: The expected rate of return of the stock (ie the expected rate of
growth of the underlying asset which equals the risk free rate plus a risk premium) is not one
of the variables in the Black-Scholes model (or any other model for option valuation). The
important implication is that the price of an option is completely independent of the expected
growth of the underlying asset. Thus, while any two investors may strongly disagree on the
rate of return they expect on a stock they will, given agreement to the assumptions of
volatility and the risk free rate, always agree on the fair price of the option on that
underlying asset.

The key concept underlying the valuation of all derivatives -- the fact that price of an
option is independent of the risk preferences of investors -- is called risk-neutral valuation.
It means that all derivatives can be valued by assuming that the return from their underlying
assets is the risk free rate.

Limitation: Dividends are ignored in the basic Black-Scholes formula, but there are a
number of widely used adaptations to the original formula, which I use in my models, which
enable it to handle both discrete and continuous dividends accurately.

However, despite these adaptations the Black-Scholes model has one major limitation:
it cannot be used to accurately price options with an American-style exercise as it only
calculates the option price at one point in time -- at expiration. It does not consider the steps
along the way where there could be the possibility of early exercise of an American option.

As all exchange traded equity options have American-style exercise (ie they can be
exercised at any time as opposed to European options which can only be exercised at
expiration) this is a significant limitation.
The exception to this is an American call on a non-dividend paying asset. In this case
the call is always worth the same as its European equivalent as there is never any advantage
in exercising early.

Advantage: The main advantage of the Black-Scholes model is speed -- it lets you calculate
a very large number of option prices in a very short time. Since, high accuracy is not critical
for American option pricing (eg when animating a chart to show the effects of time decay)
using Black-Scholes is a good option. But, the option of using the binomial model is also
advisable for the relatively few pricing and profitability numbers where accuracy may be
important and speed is irrelevant. You can experiment with the Black-Scholes model using
on-line options pricing calculator.

The Binomial Model

The binomial model breaks down the time to expiration into potentially a very large
number of time intervals, or steps. A tree of stock prices is initially produced working
forward from the present to expiration. At each step it is assumed that the stock price will
move up or down by an amount calculated using volatility and time to expiration. This
produces a binomial distribution, or recombining tree, of underlying stock prices. The tree
represents all the possible paths that the stock price could take during the life of the option.

At the end of the tree -- ie at expiration of the option -- all the terminal option prices
for each of the final possible stock prices are known as they simply equal their intrinsic
values.
Next the option prices at each step of the tree are calculated working back from
expiration to the present. The option prices at each step are used to derive the option prices
at the next step of the tree using risk neutral valuation based on the probabilities of the stock
prices moving up or down, the risk free rate and the time interval of each step. Any
adjustments to stock prices (at an ex-dividend date) or option prices (as a result of early
exercise of American options) are worked into the calculations at the required point in time.
At the top of the tree you are left with one option price.

Advantage: The big advantage the binomial model has over the Black-Scholes model is that
it can be used to accurately price American options. This is because, with the binomial
model it's possible to check at every point in an option's life (ie at every step of the binomial
tree) for the possibility of early exercise (eg where, due to eg a dividend, or a put being
deeply in the money the option price at that point is less than the its intrinsic value).

Where an early exercise point is found it is assumed that the option holder would elect
to exercise and the option price can be adjusted to equal the intrinsic value at that point. This
then flows into the calculations higher up the tree and so on.

Limitation: As mentioned before the main disadvantage of the binomial model is its
relatively slow speed. It's great for half a dozen calculations at a time but even with today's
fastest PCs it's not a practical solution for the calculation of thousands of prices in a few
seconds which is what's required for the production of the animated charts in my strategy
evaluation model
STRATEGIES

Bull Market Strategies

Calls in a Bullish Strategy

An investor with a bullish market outlook should buy call options. If you expect the
market price of the underlying asset to rise, then you would rather have the right to purchase
at a specified price and sell later at a higher price than have the obligation to deliver later at a
higher price.
The investor's profit potential buying a call option is unlimited. The investor's profit is
the the market price less the exercise price less the premium. The greater the increase in
price of the underlying, the greater the investor's profit.

The investor's potential loss is limited. Even if the market takes a drastic decline in
price levels, the holder of a call is under no obligation to exercise the option. He may let the
option expire worthless.

The investor breaks even when the market price equals the exercise price plus the premium.

An increase in volatility will increase the value of your call and increase your return.
Because of the increased likelihood that the option will become in- the-money, an increase
in the underlying volatility (before expiration), will increase the value of a long options
position. As an option holder, your return will also increase.

A simple example will illustrate the above:

Suppose there is a call option with a strike price of Rs 2000 and the option premium is
Rs 100. The option will be exercised only if the value of the underlying is greater than Rs
2000 (the strike price). If the buyer exercises the call at Rs 2200 then his gain will be Rs
200. However, this would not be his actual gain for that he will have to deduct the Rs 200
(premium) he has paid.

The profit can be derived as follows

Profit = Market price - Exercise price - Premium


Profit = Market price – Strike price – Premium.
2200 – 2000 – 100 = Rs 100
Puts in a Bullish Strategy

An investor with a bullish market outlook can also go short on a Put option. Basically,
an investor anticipating a bull market could write Put options. If the market price increases
and puts become out-of-the-money, investors with long put positions will let their options
expire worthless.

By writing Puts, profit potential is limited. A Put writer profits when the price of the
underlying asset increases and the option expires worthless. The maximum profit is limited
to the premium received.

However, the potential loss is unlimited. Because a short put position holder has an
obligation to purchase if exercised. He will be exposed to potentially large losses if the
market moves against his position and declines.

The break-even point occurs when the market price equals the exercise price: minus
the premium. At any price less than the exercise price minus the premium, the investor loses
money on the transaction. At higher prices, his option is profitable.

An increase in volatility will increase the value of your put and decrease your return.
As an option writer, the higher price you will be forced to pay in order to buy back the
option at a later date , lower is the return.

Bullish Call Spread Strategies


A vertical call spread is the simultaneous purchase and sale of identical call options
but with different exercise prices.

To "buy a call spread" is to purchase a call with a lower exercise price and to write a
call with a higher exercise price. The trader pays a net premium for the position.

To "sell a call spread" is the opposite, here the trader buys a call with a higher exercise
price and writes a call with a lower exercise price, receiving a net premium for the position.

An investor with a bullish market outlook should buy a call spread. The "Bull Call
Spread" allows the investor to participate to a limited extent in a bull market, while at the
same time limiting risk exposure.

To put on a bull spread, the trader needs to buy the lower strike call and sell the higher
strike call. The combination of these two options will result in a bought spread. The cost of
Putting on this position will be the difference between the premium paid for the low strike
call and the premium received for the high strike call.
The investor's profit potential is limited. When both calls are in-the-money, both will
be exercised and the maximum profit will be realised. The investor delivers on his short call
and receives a higher price than he is paid for receiving delivery on his long call.

The investors's potential loss is limited. At the most, the investor can lose is the net
premium. He pays a higher premium for the lower exercise price call than he receives for
writing the higher exercise price call.

The investor breaks even when the market price equals the lower exercise price plus
the net premium. At the most, an investor can lose is the net premium paid. To recover the
premium, the market price must be as great as the lower exercise price plus the net premium.

An example of a Bullish call spread:

Let's assume that the cash price of a scrip is Rs 100 and you buy a November call
option with a strike price of Rs 90 and pay a premium of Rs 14. At the same time you sell
another November call option on a scrip with a strike price of Rs 110 and receive a premium
of Rs 4. Here you are buying a lower strike price option and selling a higher strike price
option. This would result in a net outflow of Rs 10 at the time of establishing the spread.

Now let us look at the fundamental reason for this position. Since this is a bullish
strategy, the first position established in the spread is the long lower strike price call option
with unlimited profit potential. At the same time to reduce the cost of puchase of the long
position a short position at a higher call strike price is established. While this not only
reduces the outflow in terms of premium but his profit potential as well as risk is limited.
Based on the above figures the maximum profit, maximum loss and breakeven point of this
spread would be as follows:

Maximum profit = Higher strike price - Lower strike price - Net premium
paid

= 110 - 90 - 10 = 10

Maximum Loss = Lower strike premium - Higher strike premium

= 14 - 4 = 10

Breakeven Price = Lower strike price + Net premium paid

= 90 + 10 = 100

Bullish Put Spread Strategies

A vertical Put spread is the simultaneous purchase and sale of identical Put options
but with different exercise prices.

To "buy a put spread" is to purchase a Put with a higher exercise price and to write a
Put with a lower exercise price. The trader pays a net premium for the position.

To "sell a put spread" is the opposite: the trader buys a Put with a lower exercise price
and writes a put with a higher exercise price, receiving a net premium for the position.
An investor with a bullish market outlook should sell a Put spread. The "vertical bull
put spread" allows the investor to participate to a limited extent in a bull market, while at the
same time limiting risk exposure.

To put on a bull spread, a trader sells the higher strike put and buys the lower
strikeput. The bull spread can be created by buying the lower strike and selling the higher
strike of either calls or put. The difference between the premiums paid and received makes
up one leg of the spread.

The investor's profit potential is limited. When the market price reaches or exceeds the
higher exercise price, both options will be out-of-the-money and will expire worthless. The
trader will realize his maximum profit, the net premium
The investor's potential loss is also limited. If the market falls, the options will be in-
the-money. The puts will offset one another, but at different exercise prices.

The investor breaks-even when the market price equals the lower exercise price less
the net premium. The investor achieves maximum profit i.e the premium received, when the
market price moves up beyond the higher exercise price (both puts are then worthless).

An example of a bullish put spread.

Lets us assume that the cash price of the scrip is Rs 100. You now buy a November
put option on a scrip with a strike price of Rs 90 at a premium of Rs 5 and sell a put option
with a strike price of Rs 110 at a premium of Rs 15.

The first position is a short put at a higher strike price. This has resulted in some
inflow in terms of premium. But here the trader is worried about risk and so caps his risk by
buying another put option at the lower strike price. As such, a part of the premium received
goes off and the ultimate position has limited risk and limited profit potential. Based on the
above figures the maximum profit, maximum loss and breakeven point of this spread would
be as follows:
Maximum profit = Net option premium income or net credit

= 15 - 5 = 10

Maximum loss = Higher strike price - Lower strike price - Net premium received

= 110 - 90 - 10 = 10

Breakeven Price = Higher Strike price - Net premium income

= 110 - 10 = 100

Bear Market Strategies

Puts in a Bearish Strategy

When you purchase a put you are long and want the market to fall. A put option is a
bearish position. It will increase in value if the market falls. An investor with a bearish
market outlook shall buy put options. By purchasing put options, the trader has the right to
choose whether to sell the underlying asset at the exercise price. In a falling market, this
choice is preferable to being obligated to buy the underlying at a price higher.
An investor's profit potential is practically unlimited. The higher the fall in price of the
underlying asset, higher the profits.

The investor's potential loss is limited. If the price of the underlying asset rises instead
of falling as the investor has anticipated, he may let the option expire worthless. At the most,
he may lose the premium for the option.

The trader's breakeven point is the exercise price minus the premium. To profit, the
market price must be below the exercise price. Since the trader has paid a premium he must
recover the premium he paid for the option.

An increase in volatility will increase the value of your put and increase your return.
An increase in volatility will make it more likely that the price of the underlying instrument
will move. This increases the value of the option.

Calls in a Bearish Strategy

Another option for a bearish investor is to go short on a call with the intent to
purchase it back in the future. By selling a call, you have a net short position and needs to be
bought back before expiration and cancel out your position.

For this an investor needs to write a call option. If the market price falls, long call
holders will let their out-of-the-money options expire worthless, because they could
purchase the underlying asset at the lower market price.
The investor's profit potential is limited because the trader's maximum profit is limited
to the premium received for writing the option.

Here the loss potential is unlimited because a short call position holder has an
obligation to sell if exercised, he will be exposed to potentially large losses if the market
rises against his position.

The investor breaks even when the market price equals the exercise price: plus the
premium. At any price greater than the exercise price plus the premium, the trader is losing
money. When the market price equals the exercise price plus the premium, the trader breaks
even.

An increase in volatility will increase the value of your call and decrease your return.
When the option writer has to buy back the option in order to cancel out his position, he will
be forced to pay a higher price due to the increased value of the calls.

Bearish Put Spread Strategies


A vertical put spread is the simultaneous purchase and sale of identical put options but
with different exercise prices.

To "buy a put spread" is to purchase a put with a higher exercise price and to write a
put with a lower exercise price. The trader pays a net premium for the position.

To "sell a put spread" is the opposite. The trader buys a put with a lower exercise price
and writes a put with a higher exercise price, receiving a net premium for the position. To
put on a bear put spread you buy the higher strike put and sell the lower strike put. You sell
the lower strike and buy the higher strike of either calls or puts to set up a bear spread.

An investor with a bearish market outlook should: buy a put spread. The "Bear Put
Spread" allows the investor to participate to a limited extent in a bear market, while at the
same time limiting risk exposure.
The investor's profit potential is limited. When the market price falls to or below the
lower exercise price, both options will be in-the-money and the trader will realize his
maximum profit when he recovers the net premium paid for the options.

The investor's potential loss is limited. The trader has offsetting positions at different
exercise prices. If the market rises rather than falls, the options will be out-of-the-money and
expire worthless. Since the trader has paid a net premium

The investor breaks even when the market price equals the higher exercise price less
the net premium. For the strategy to be profitable, the market price must fall. When the
market price falls to the high exercise price less the net premium, the trader breaks even.
When the market falls beyond this point, the trader profits.

An example of a bearish put spread.

Lets assume that the cash price of the scrip is Rs 100. You buy a November put option
on a scrip with a strike price of Rs 110 at a premium of Rs 15 and sell a put option with a
strike price of Rs 90 at a premium of Rs 5.

In this bearish position the put is taken as long on a higher strike price put with the
outgo of some premium. This position has huge profit potential on downside. If the trader
may recover a part of the premium paid by him by writing a lower strike price put option.
The resulting position is a mildly bearish position with limited risk and limited profit profile.
Though the trader has reduced the cost of taking a bearish position, he has also capped the
profit portential as well. The maximum profit, maximum loss and breakeven point of this
spread would be as follows:

Maximum profit = Higher strike price option - Lower strike price option
- Net premium paid
= 110 - 90 - 10 = 10

Maximum loss = Net premium paid

= 15 - 5 = 10

Breakeven Price = Higher strike price - Net premium paid

= 110 - 10 = 100

Bearish Call Spread Strategies

A vertical call spread is the simultaneous purchase and sale of identical call options
but with different exercise prices.

To "buy a call spread" is to purchase a call with a lower exercise price and to write a
call with a higher exercise price. The trader pays a net premium for the position.

To "sell a call spread" is the opposite: the trader buys a call with a higher exercise
price and writes a call with a lower exercise price, receiving a net premium for the position.

To put on a bear call spread you sell the lower strike call and buy the higher strike
call. An investor sells the lower strike and buys the higher strike of either calls or puts to put
on a bear spread.

An investor with a bearish market outlook should: sell a call spread. The "Bear Call
Spread" allows the investor to participate to a limited extent in a bear market, while at the
same time limiting risk exposure.
The investor's profit potential is limited. When the market price falls to the lower
exercise price, both out-of-the-money options will expire worthless. The maximum profit
that the trader can realize is the net premium: The premium he receives for the call at the
higher exercise price.

Here the investor's potential loss is limited. If the market rises, the options will offset
one another. At any price greater than the high exercise price, the maximum loss will equal
high exercise price minus low exercise price minus net premium.

The investor breaks even when the market price equals the lower exercise price plus
the net premium. The strategy becomes profitable as the market price declines. Since the
trader is receiving a net premium, the market price does not have to fall as low as the lower
exercise price to breakeven.
An example of a bearish call spread.

Let us assume that the cash price of the scrip is Rs 100. You now buy a November call
option on a scrip with a strike price of Rs 110 at a premium of Rs 5 and sell a call option
with a strike price of Rs 90 at a premium of Rs 15.

In this spread you have to buy a higher strike price call option and sell a lower strike
price option. As the low strike price option is more expensive than the higher strike price
option, it is a net credit startegy. The final position is left with limited risk and limited profit.
The maximum profit, maximum loss and breakeven point of this spread would be as follows:

Maximum profit = Net premium received

= 15 - 5 = 10

Maximum loss = Higher strike price option - Lower strike price option -
Net premium received

= 110 - 90 - 10 = 10

Breakeven Price = Lower strike price + Net premium paid


= 90 + 10 = 100

Key Regulations

In India we have two premier exchanges The National Stock Exchange of India (NSE)
and The Bombay Stock Exchange (BSE) which offer options trading on stock indices as well
as individual securities.

Options on stock indices are European in kind and settled only on the last of
expiration of the underlying. NSE offers index options trading on the NSE Fifty index called
the Nifty. While BSE offers index options on the country’s widely used index Sensex, which
consists of 30 stocks.

Options on individual securities are American. The number of stock options contracts
to be traded on the exchanges will be based on the list of securities as specified by Securities
and Exchange Board of India (SEBI). Additions/deletions in the list of securities eligible on
which options contracts shall be made available shall be notified from time to time.

Underlying: Underlying for the options on individual securities contracts shall be the
underlying security available for trading in the capital market segment of the exchange.

Security descriptor: The security descriptor for the options on individual securities shall be:

 Market type - N
 Instrument type - OPTSTK
 Underlying - Underlying security
 Expiry date - Date of contract expiry
 Option type - CA/PA
 Exercise style - American Premium Settlement method: Premium Settled; CA - Call
American
 PA - Put American.

Trading cycle: The contract cycle and availability of strike prices for options contracts on
individual securities shall be as follows:

Options on individual securities contracts will have a maximum of three-month


trading cycle. New contracts will be introduced on the trading day following the expiry of
the near month contract.

On expiry of the near month contract, new contract shall be introduced at new strike
prices for both call and put options, on the trading day following the expiry of the near
month contract. (See Index futures learning centre for further reading)

Strike price intervals: The exchange shall provide a minimum of five strike prices for
every option type (i.e call & put) during the trading month. There shall be two contracts in-
the-money (ITM), two contracts out-of-the-money (OTM) and one contract at-the-money
(ATM). The strike price interval for options on individual securities is given in the
accompanying table.

New contracts with new strike prices for existing expiration date will be introduced
for trading on the next working day based on the previous day's underlying close values and
as and when required. In order to fix on the at-the-money strike price for options on
individual securities contracts the closing underlying value shall be rounded off to the
nearest multiplier of the strike price interval. The in-the-money strike price and the out-of-
the-money strike price shall be based on the at-the-money strike price interval.

Expiry day: Options contracts on individual securities as well as index options shall expire
on the last Thursday of the expiry month. If the last Thursday is a trading holiday, the
contracts shall expire on the previous trading day.

Order type: Regular lot order, stop loss order, immediate or cancel, good till day, good till
cancelled, good till date and spread order. Good till cancelled (GTC) orders shall be
cancelled at the end of the period of 7 calendar days from the date of entering an order.

Permitted lot size: The value of the option contracts on individual securities shall not be
less than Rs 2 lakh at the time of its introduction. The permitted lot size for the options
contracts on individual securities shall be in multiples of 100 and fractions if any, shall be
rounded off to the next higher multiple of 100.

Price steps: The price steps in respect of all options contracts admitted to dealings on the
exchange shall be Re 0.05.

Quantity freeze: Orders which may come to the exchange as a quantity freeze shall be the
lesser of the following: 1 per cent of the marketwide position limit stipulated of options on
individual securities as given in (h) below or Notional value of the contract of around Rs 5
crore. In respect of such orders, which have come under quantity freeze, the member shall be
required to confirm to the exchange that there is no inadvertent error in the order entry and
that the order is genuine. On such confirmation, the exchange at its discretion may approve
such order subject to availability of turnover/exposure limits, etc.
Base price: Base price of the options contracts on introduction of new contracts shall be the
theoretical value of the options contract arrived at based on Black-Scholes model of
calculation of options premiums. The base price of the contracts on subsequent trading days
will be the daily close price of the options contracts. However in such of those contracts
where orders could not be placed because of application of price ranges, the bases prices
may be modified at the discretion of the exchange and intimated to the members.

Price ranges: There will be no day minimum/maximum price ranges applicable for the
options contract. The operating ranges and day minimum/maximum ranges for options
contract shall be kept at 99 per cent of the base price. In view of this the members will not be
able to place orders at prices which are beyond 99 per cent of the base price. The base prices
for option contracts may be modified, at the discretion of the exchange, based on the request
received from trading members as mentioned above.

Exposure limits: Gross open positions of a member at any point of time shall not exceed the
exposure limit as detailed hereunder:

• Index Options: Exposure Limit shall be 33.33 times the liquid networth.

• Option contracts on individual Securities: Exposure Limit shall be 20 times the liquid
networth.

Memberwise position limit: When the open position of a Clearing Member, Trading
Member or Custodial Participant exceeds 15 per cent of the total open interest of the market
or Rs 100 crore, whichever is higher, in all the option contracts on the same underlying, at
any time, including during trading hours.
For option contracts on individual securities, open interest shall be equivalent to the open
positions multiplied by the notional value. Notional Value shall be the previous day's closing
price of the underlying security or such other price as may be specified from time to time.

Market wide position limits: Market wide position limits for option contracts on individual
securities shall be lower of:

*20 times the average number of shares traded daily, during the previous calendar month, in
the relevant underlying security in the underlying segment of the relevant exchange or, 10
per cent of the number of shares held by non-promoters in the relevant underlying security
i.e. 10 per cent of the free float in terms of the number of shares of a company.

The relevant authority shall specify the market wide position limits once every month,
on the expiration day of the near month contract, which shall be applicable till the expiry of
the subsequent month contract.

Exercise settlement: Exercise type shall be American and final settlement in respect of
options on individual securities contracts shall be cash settled for an initial period of 6
months and as per the provisions of National Securities Clearing Corporation Ltd (NSCCL)
as may be stipulated from time to time.

Reading Stock Option Tables

In India, option tables published in business newspapers and is fairly similar


to the regular stock tables.

The following is the format of the options table published in Indian business
news papers:
NIFTY OPTIONS
Contracts Exp.Date Str.Price Opt.Type Open High Low Trd.Qty No.of.Cont. Trd.V
RELIANCE 7/26/01 360 CA 3 3 2 4200 7 151200
RELIANCE 7/26/01 360 PA 29 39 29 1200 2 432000
RELIANCE 7/26/01 380 CA 1 1 1 1200 2 456000
RELIANCE 7/26/01 380 PA 35 40 35 1200 2 456000
RELIANCE 7/26/01 340 CA 8 9 6 11400 19 387600
RELIANCE 7/26/01 340 PA 10 14 10 13800 23 469200
RELIANCE 7/26/01 320 CA 22 24 16 11400 19 364800
RELIANCE 7/26/01 320 PA 4 7 2 29400 49 940800
RELIANCE 8/30/01 360 PA 31 35 31 1200 2 432000
RELIANCE 8/30/01 340 CA 15 15 15 600 1 204000
RELIANCE 8/30/01 320 PA 10 10 10 600 1 192000
RELIANCE 7/26/01 300 CA 38 38 38 600 1 180000
RELIANCE 7/26/01 300 PA 2 2 2 1200 2 360000
RELIANCE 7/26/01 280 CA 59 60 53 1800 3 504000

 The first column shows the contract that is being traded i.e Reliance.

 The second coloumn displays the date on which the contract will expire i.e. the expiry
date is the last Thursday of the month.
 Call options-American are depicted as 'CA' and Put options-American as'PA'.
 The Open, High, Low, Close columns display the traded premium rates.

Advantages of option trading


Risk management: Put options allow investors holding shares to hedge against a possible
fall in their value. This can be considered similar to taking out insurance against a fall in the
share price.

Time to decide: By taking a call option the purchase price for the shares is locked in. This
gives the call option holder until the Expiry Day to decide whether or not to exercise the
option and buy the shares. Likewise the taker of a put option has time to decide whether or
not to sell the shares.

Speculation: The ease of trading in and out of an option position makes it possible to trade
options with no intention of ever exercising them. If an investor expects the market to rise,
they may decide to buy call options. If expecting a fall, they may decide to buy put options.
Either way the holder can sell the option prior to expiry to take a profit or limit a loss.
Trading options has a lower cost than shares, as there is no stamp duty payable unless and
until options are exercised.

Leverage: Leverage provides the potential to make a higher return from a smaller initial
outlay than investing directly. However, leverage usually involves more risks than a direct
investment in the underlying shares. Trading in options can allow investors to benefit from a
change in the price of the share without having to pay the full price of the share.

We can see below how one can leverage ones position by just paying the premium.

Option Premium Stock


Bought on Oct 15 Rs 380 Rs 4000
Sold on Dec 15 Rs 670 Rs 4500
Profit Rs 290 Rs 500
ROI (Not annualised) 76.3% 12.5%
Income generation: Shareholders can earn extra income over and above dividends by
writing call options against their shares. By writing an option they receive the option
premium upfront. While they get to keep the option premium, there is a possibility that they
could be exercised against and have to deliver their shares to the taker at the exercise price.

Strategies: By combining different options, investors can create a wide range of potential
profit scenarios. To find out more about options strategies read the module on trading
strategies.

ANALYSIS AND INTERPRETATION


SECTOR: AUTOMOBILE
MARUTI UDYOG LTD.
Snapshot
Registered Office 11th Floor, Jeevan Prakash Building 25, Kasturba Gandhi Marg New
Delhi - 110001 Delhi
India
Tel. 23316831 / 23316832 / 23316833
Fax 23318754
Website www.marutiudyog.com
Chief Executive
Mr. Jagdish Khattar
Name
Secretary Name Mr. Anil Rustgi
Face Value 5
Market Lot 1
Business Group
Suzuki Group
Name
Incorporation Date Not Available
Industry Name Auto - Cars & Jeeps
Registrar of M C S LIMITED
Company SRI VENKATESH BHAVAN 212 - A SHAHPURJAT BEHIND
PANCHSHEEL CLUB
New Delhi , Delhi , 110049
Tel :- 6213830
Fax no :- 91-11-6473152
Listed on National Stock Exchange of India Ltd.
The Stock Exchange, Mumbai

BULLISH VERTICAL SPREAD-CALL:


MARUTI: TABLE-1

Long put with a strike price of rupees Short put with a strike price of
830 rupees 850
Spot Premium Value of Profit& Premium Value Profit& Total
option of loss P& L
option
840.9 -32.77 10.9 -21.87 25.45 0 25.45 3.58
833.1 -18.34 3.1 -15.24 24.87 0 24.87 9.63
772.9 -37.55 0 -37.55 29.54 0 29.54 -8.01
791.7 0 -54.56 45.65 0 45.65 -8.91
5 -54.56
774.8 0 -36.04 27.76 0 27.76 -8.28
5 -36.04
792.3 0 -56.28 43.56 0 43.56 -
5 -56.28 12.72
787.2 -32.67 0 -32.67 34.87 0 34.87 2.2
797.1 -23.87 0 -23.87 24.73 0 24.73 0.86
801.5 0 -12.52 14.35 0 14.35 1.83
5 -12.52
791.7 -30.85 0 -30.85 24.82 0 24.82 -6.03
5
796.1 0 -35.48 29.76 0 29.76 -5.72
5 -35.48
780.1 -32.79 0 -32.79 27.36 0 27.36 -5.43
788.8 0 -9.69 8.08 0 8.08 -1.61
5 -9.69
789.6 0 -8.32 7.56 0 7.56 -0.76
5 -8.32
791.6 5.1 -11.99 15.77 0 15.77 3.78
5 -17.09
831.3 -30.61 1.3 -29.31 26.87 0 26.87 -2.44
821.7 -28.67 0 -28.67 23.96 0 23.96 -4.71
796.6 -15.56 12.76 0 12.76 -2.8
5 -15.56 0
812.4 -18.34 14.28 0 14.28 -4.06
5 -18.34 0
820.2 -17.76 0 -17.76 14.95 0 14.95 -2.81

Graph:
900
800
700
600
500
Spot
400
Total P& L
300
200
100
0
-100 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20

Analysis:
In This strategy we buy lower strike price calls options and sells higher strike price
call options.
This strategy preferred to buy call option at the time of bullish trend because as the
spot price of the script increases the value of premium increases.
And when the spot price of the script decreases the value of premium also decreases.
But here the spot price of the MARUTI is goes on decreasing and the spot prices are
less than the strike price so the option holder may go under loss.
Here option holder will get a maximum profit of Rs 9.63 at a spot price of Rs. 833.10
And can get a minimum loss of Rs -0.76 at a spot price of Rs 789.65

BEARISH VERTICAL SPREAD-CALL:


MARUTI: TABLE-2
Long put with a strike price of rupees Short put with a strike price of
850 rupees 830
Spot Premium Value of Profit& Premium Value Profit& Total
option of loss P& L
option
840.9 -25.45 0 -25.45 32.77 10.9 43.67 18.22
833.1 -24.87 0 -24.87 18.34 3.1 21.44 -3.43
772.9 -29.54 0 -29.54 37.55 0 37.55 8.01
791.7 -45.65 0 -45.65 0 54.56 8.91
5 54.56
774.8 -27.76 0 -27.76 0 36.04 8.28
5 36.04
792.3 -43.56 0 -43.56 0 56.28 12.72
5 56.28
787.2 -34.87 0 -34.87 32.67 0 32.67 -2.2
797.1 -24.73 0 -24.73 23.87 0 23.87 -0.86
801.5 -14.35 0 -14.35 0 12.52 -1.83
5 12.52
791.7 -24.82 0 -24.82 0 30.85 6.03
5 30.85
796.1 -29.76 0 -29.76 0 35.48 5.72
5 35.48
780.1 -27.36 0 -27.36 32.79 0 32.79 5.43
788.8 -8.08 0 -8.08 0 9.69 1.61
5 9.69
789.6 -7.56 0 -7.56 0 8.32 0.76
5 8.32
791.6 -15.77 0 -15.77 0 17.09 1.32
5 17.09
831.3 -26.87 0 -26.87 30.61 1.3 31.91 5.04
821.7 -23.96 0 -23.96 28.67 0 28.67 4.71
796.6 -12.76 -12.76 0 15.56 2.8
5 0 15.56
812.4 -14.28 -14.28 0 18.34 4.06
5 0 18.34
820.2 -14.95 0 -14.95 17.76 0 17.76 2.81
Graph:
900
800
700
600
500
Spot
400
Total P& L
300
200
100
0
-100 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20

Analysis:
This graph shows that as the spot price of the MARUTI script increase or decrease the
profit and changes in the same way.
In this strategy the speculator gains the net option premium while creating the spread
since a long call at a higher strike price be lower than the premium received on a short call
with a low strike price.
In this strategy we will buy higher strike price calls and sell at lower strike price
calls.
From the above chart we can get a minimum profit of Rs 0.76 at a spot price 789.65
And we can get a maximum profit of Rs 18.22 at a spot price 840.9
TATA MOTARS:
SNAPSHOT
Registered Office Bombay House, 24, Homi Mody Street Fort Mumbai - 400001
Maharashtra
India
Website www.tatamotors.com
Registered Office Bombay House, 24, Homi Mody Street Fort Mumbai - 400001
Maharashtra
India
Website www.tatamotors.com
Chief Executive
Mr. Ravi Kant
Name
Secretary Name Mr. H K Sethna
Face Value 10
Market Lot 1
Lot Size 825
Business Group
Tata Group
Name
Incorporation Date Not Available
Industry Name Auto - LCVs/HCVs
Listed on Bangalore Stock Exchange Ltd.
Calcutta Stock Exchange Association Ltd.
Cochin Stock Exchange Ltd.
Delhi Stock Exchange Assoc. Ltd.
Hyderabad Stock Exchange Ltd
Inter-connected Stock Exchange of India
Jaipur Stock Exchange Ltd
London Stock Exchange
Ludhiana Stock Exchange Assoc. Ltd.
Luxembourg Stock Exchange
Madras Stock Exchange Ltd.,
National Stock Exchange of India Ltd.
Newyork Stock Exchange
Over The Counter Exchange Of India Ltd.
The Stock Exchange, Mumbai

BULLISH VERTICAL SPREAD-CALL:


TATA MOTARS: TABLE-1
Long put with a strike price of rupees Short put with a strike price of
780 rupees 800
Spot Premium Value of Profit& Premium Value Profit& Total
option of loss P& L
option
789.0 9.05 -23.6 0 28.55 4.95
5 -32.65 28.55
775.4 -24.45 0 -24.45 22.76 0 22.76 -1.69
739.9 -41.26 0 -41.26 37.79 0 37.79 -3.47
726.6 -54.77 0 -54.77 49.31 0 49.31 -5.46
738.6 -42.99 0 -42.99 38.52 0 38.52 -4.47
766.8 0 -15.35 0 12.49 -2.86
5 -15.35 12.49
764.7 -16.2 0 -16.2 13.41 0 13.41 -2.79
773.1 -18.02 0 -18.02 16.56 0 16.56 -1.46
743.6 0 -39.44 0 35.01 -4.43
5 -39.44 35.01
725.9 0 -57.35 0 51.93 -5.42
5 -57.35 51.93
748.2 0 -35.26 0 31.85 -3.41
5 -35.26 31.85
771.7 -6.91 0 -6.91 5.06 0 5.06 -1.85
769.2 0 -27.68 0 24.73 -2.95
5 -27.68 24.73
775.8 -24.61 0 -24.61 22.36 0 22.36 -2.25
805.1 -20.3 25.1 4.8 3.16 5.1 8.26 13.06
752.5 0 -25.54 0 22.54 -3
5 -25.54 22.54
719.6 -40.65 0 -40.65 38.25 0 38.25 -2.4
716.4 -42.76 0 35.85 -6.91
5 -42.76 0 35.85
728.2 -39.86 0 -39.86 30.75 0 30.75 -9.11

Graph:
900
800
700
600
500
Spot
400
Total P& L
300
200
100
0
-100 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20

Analysis:
In This strategy we buy lower strike price calls options and sells higher strike price call
options.

This strategy preferred to buy call option at the time of bullish trend because as the
spot price of the script increases the value of premium increases.
And when the spot price of the script decreases the value of premium also decreases.
But here the spot price of the TATA MOTARS is goes on decreasing and the spot
prices are less than the strike price so the option holder may go under loss.
From the above chart the option holder will get a maximum profit of Rs 13.06 at a
spot price of Rs. 805.01
And can get a minimum loss of Rs -1.46 at a spot price of Rs 773.10

BEARISH VERTICAL SPREAD-CALL:

TATA MOTARS:

TABLE-2

Spot Premium Value of Profit& Premium Value Profit& Total


option of loss P& L
option
789.0 0 -28.55 9.05 41.7 13.15
5 -28.55 32.65
775.4 -22.76 0 -22.76 24.45 0 24.45 1.69
739.9 -37.79 0 -37.79 41.26 0 41.26 3.47
726.6 -49.31 0 -49.31 54.77 0 54.77 5.46
738.6 -38.52 0 -38.52 42.99 0 42.99 4.47
766.8 0 -12.49 0 15.35 2.86
5 -12.49 15.35
764.7 -13.41 0 -13.41 16.2 0 16.2 2.79
773.1 -16.56 0 -16.56 18.02 0 18.02 1.46
743.6 0 -35.01 0 39.44 4.43
5 -35.01 39.44
725.9 0 -51.93 0 57.35 5.42
5 -51.93 57.35
748.2 0 -31.85 0 35.26 3.41
5 -31.85 35.26
771.7 -5.06 0 -5.06 6.91 0 6.91 1.85
769.2 0 -24.73 0 27.68 2.95
5 -24.73 27.68
775.8 -22.36 0 -22.36 24.61 0 24.61 2.25
805.1 -3.16 5.1 1.94 20.3 25.1 45.4 47.34
752.5 0 -22.54 0 25.54 3
5 -22.54 25.54
719.6 -38.25 0 -38.25 40.65 0 40.65 2.4
716.4 -35.85 0 42.76 6.91
5 -35.85 0 42.76
728.2 -30.75 0 -30.75 39.86 0 39.86 9.11

Graph:
900
800
700
600
500 Spot
400 Total P& L

300
200
100
0
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20

Analysis:
This graph shows that as the spot price of the TATA MOTARS script increase or
decrease the profit and changes in the same way.
In this strategy the speculator gains the net option premium while creating the spread
since a long call at a higher strike price be lower than the premium received on a short call
with a low strike price.
In this strategy we will buy higher strike price calls and sell at lower strike price calls.
From the above chart we can get a minimum profit of Rs 1.46 at a spot price 773.10
And we can get a maximum profit of Rs 47.34 at a spot price 805.10

SECTOR: CEMENT
ASSOCIATED CEMENT COMPANIES LTD. (ACC):
SNAPSHOT
Registered Office Cement House 121, Maharshi Karve Road, Post Box 11025
Mumbai - 400020 Maharashtra
India
Website www.acclimited.com
Chief Executive
Mr. M L Narula
Name
Secretary Name Mr. A Anjeneyan
Face Value 10
Market Lot 1
Lot Size 750
Business Group
ACC Group
Name
Incorporation Date 31/12/1944
Industry Name Cement - Major
Listed on Bangalore Stock Exchange Ltd.
Calcutta Stock Exchange Association Ltd.
Cochin Stock Exchange Ltd.
Delhi Stock Exchange Assoc. Ltd.
Hyderabad Stock Exchange Ltd
Inter-connected Stock Exchange of India
Jaipur Stock Exchange Ltd
Ludhiana Stock Exchange Assoc. Ltd.
Madras Stock Exchange Ltd.,
National Stock Exchange of India Ltd.
Over The Counter Exchange Of India Ltd.
The Stock Exchange, Ahmedabad
The Stock Exchange, Mumbai
Uttar Pradesh Exchange Assoc Ltd.
BULLISH VERTICAL SPREAD-CALL:
ACC:

TABLE-1
Long put with a strike price of rupees Short put with a strike price of
850 rupees 870
Spot Premium Value of Profit& Premium Value Profit& Total
option of loss P& L
option
876.3 -34.86 26.3 -8.56 30.67 6.3 36.97 28.41
854.4 5.45 -42.42 0 45.68 3.26
5 -47.87 45.68
811.4 -31.25 0 -31.25 28.59 0 28.59 -2.66
852.5 -49.24 2.5 -46.74 52.78 0 52.78 6.04
0 - 0 95.66 -
810.5 -109.64 109.64 95.66 13.98
833.1 0 -79.06 0 72.4 -6.66
5 -79.06 72.4
781.1 0 - 0 104.59 -9.63
5 -114.22 114.22 104.59
0 - 0 98.34 -
746.7 -111.81 111.81 98.34 13.47
749.3 0 - 0 96.76 -
5 -114.44 114.44 96.76 17.68
746.9 0 - 0 114.49 -
5 -129.83 129.83 114.49 15.34
0 - 0 123.87 -
731.8 -138.72 138.72 123.87 14.85
723.1 0 - 0 107.94 -
5 -123.23 123.23 107.94 15.29
739.3 0 - 0 119.65 6.04
5 -113.61 113.61 119.65
749.2 -110.3 0 -110.3 118.65 0 118.65 8.35
752.7 0 - 0 105.67 -3.91
5 -109.58 109.58 105.67
753.7 -87.65 0 -87.65 84.76 0 84.76 -2.89
733.6 -85.89 0 -85.89 80.77 0 80.77 -5.12
734.7 -79.49 0 -79.49 76.94 0 76.94 -2.55
734.7 -76.25 0 71.57 -4.68
5 -76.25 0 71.57

Graph:
1000
900
800
700
600
500 Spot
400 Total P& L
300
200
100
0
-100 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20

Analysis:
In This strategy we buy lower strike price calls options and sells higher strike price
call options.
This strategy preferred to buy call option at the time of bullish trend because as the
spot price of the script increases the value of premium increases.
And when the spot price of the script decreases the value of premium also decreases.
But here the spot price of the ACC is goes on decreasing and the spot prices are less
than the strike price so the option holder may go under loss.
From the above chart the option holder will get a maximum profit of Rs28.41 at a spot
price of Rs. 876.30
And can get a minimum loss of Rs -2.55 at a spot price of Rs 734.70

BEARISH VERTICAL SPREAD-CALL:


ACC: TABLE-2
Long put with a strike price of rupees Short put with a strike price of
870 rupees 850
Spot Premium Value of Profit& Premium Value Profit& Total
option of loss P& L
option
876.3 -30.67 6.3 -24.37 34.86 26.3 61.16 36.79
854.4 0 -45.68 4.54 52.41 6.73
5 -45.68 47.87
811.4 -28.59 0 -28.59 31.25 0 31.25 2.66
852.5 -52.78 0 -52.78 49.24 2.5 51.74 -1.04
810.5 -95.66 0 -95.66 109.64 0 109.64 13.98
833.1 0 -72.4 0 79.06 6.66
5 -72.4 79.06
781.1 0 - 0 114.22 9.63
5 -104.59 104.59 114.22
746.7 -98.34 0 -98.34 111.81 0 111.81 13.47
749.3 0 -96.76 0 114.44 17.68
5 -96.76 114.44
746.9 0 - 0 129.83 15.34
5 -114.49 114.49 129.83
0 - 0 138.72 14.85
731.8 -123.87 123.87 138.72
723.1 -107.94 0 - 123.23 0 123.23 15.29
5 107.94
739.3 0 - 0 113.61 -6.04
5 -119.65 119.65 113.61
0 - 0 110.3 -8.35
749.2 -118.65 118.65 110.3
752.7 0 - 0 109.58 3.91
5 -105.67 105.67 109.58
753.7 -84.76 0 -84.76 87.65 0 87.65 2.89
733.6 -80.77 0 -80.77 85.89 0 85.89 5.12
734.7 -76.94 0 -76.94 79.49 0 79.49 2.55
734.7 -71.57 0 76.25 4.68
5 -71.57 0 76.25

Graph:
1000
900
800
700
600
500 Spot
400 Total P& L
300
200
100
0
-100 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20

Analysis:
This graph shows that as the spot price of the ACC script increase or decrease the
profit and changes in the same way.
In this strategy the speculator gains the net option premium while creating the spread
since a long call at a higher strike price is lower than the premium received on a short call
with a low strike price.
In this strategy we will buy higher strike price calls and sell at lower strike price
calls.
From the above chart we can get a minimum profit of Rs 2.66 at a spot price 811.40
And we can get a maximum profit of Rs 36.79 at a spot price 876.30

GUJARAT AMBUJA CEMENTS LTD.


SNAPSHOT

Registered Office & Ambuja Nagar P O Taluka-Kodinar, Junagadh District -


Factory 362715 Gujarat
India
Website http://www.gujaratambuja.com
Chief Executive Name Mr. Anil Singhvi
Secretary Name Mr. B L Taparia
Face Value 2
Market Lot 1
Lot Size 4125
Business Group Name Ambuja Group
Incorporation Date Not Available
Industry Name Cement - Major
Registrar of Company Not Available
Listed on Bangalore Stock Exchange Ltd.
Calcutta Stock Exchange Association Ltd.
Cochin Stock Exchange Ltd.
Delhi Stock Exchange Assoc. Ltd.
Hyderabad Stock Exchange Ltd
Inter-connected Stock Exchange of India
Jaipur Stock Exchange Ltd
London Stock Exchange
Madras Stock Exchange Ltd.,
National Stock Exchange of India Ltd.
Over The Counter Exchange Of India Ltd.
The Stock Exchange, Mumbai
Uttar Pradesh Exchange Assoc Ltd.

BULLISH VERTICAL SPREAD-CALL:


GUJARAT AMBUJA: TABLE-1

Long put with a strike price of rupees Short put with a strike price of
110 rupees 120
Spot Premium Value of Profit& Premium Value Profit& Total
option of loss P&
option L
111.7 -10.87 1.17 -9.7 9.96 0 9.96 0.26
109.8 -8.76 0 -8.76 8.98 0 8.98 0.22
112 -5.17 0 -5.17 6.76 0 6.76 1.59
113.3 -2.49 3.3 0.81 3.76 0 3.76 4.57
103.8 -13.44 0 -13.44 12.07 0 12.07 -1.37
112.8 2.85 -1.56 0 3.65 2.09
5 -4.41 3.65
110.0 -7.25 0.05 -7.2 6.57 0 6.57 -0.63
5
105.4 -12 0 -12 10.95 0 10.95 -1.05
105.9 -11.48 0 -11.48 12.08 0 12.08 0.6
5
106.1 -11.31 0 -11.31 11.67 0 11.67 0.36
5
106.0 -11.45 0 -11.45 12.65 0 12.65 1.2
5
103.8 -13.73 0 -13.73 11.78 0 11.78 -1.95
107.2 -10.37 0 -10.37 9.23 0 9.23 -1.14
5
110.8 -6.81 0.85 -5.96 7.34 0 7.34 1.38
5
106.4 -11.24 0 -11.24 10.87 0 10.87 -0.37
5
108 -9.72 0 -9.72 8.65 0 8.65 -1.07
104.3 -8.76 0 -8.76 6.98 0 6.98 -1.78
102.2 -9.09 0 -9.09 7.96 0 7.96 -1.13
104.5 -8.45 0 -8.45 7.56 0 7.56 -0.89

Graph:
120

100

80

60
Spot
Total P& L
40

20

0
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20
-20

Analysis:
In This strategy we buy lower strike price calls options and sells higher strike price
call options.
This strategy preferred to buy call option at the time of bullish trend because as the
spot price of the script increases the value of premium increases.
And when the spot price of the script decreases the value of premium also decreases.
But here the spot price of the GUJARAT AMBUJA is goes on decreasing and the
spot prices are less than the strike price so the option holder may go under loss.
From the above chart the option holder will get a maximum profit of Rs 2.09 at a spot
price of Rs. 112.85
And can get a minimum loss of Rs -0.63 at a spot price of Rs 110.05

BEARISH VERTICAL SPREAD-CALL:


GUJARAT AMBUJA:

TABLE-2
Long put with a strike price of rupees Short put with a strike price of
120 rupees 110
Spot Premium Value of Profit& Premium Value Profit& Total
option of loss P&
option L
111.7 -9.96 0 -9.96 10.87 1.7 12.57 2.61
109.8 -8.98 0 -8.98 8.76 0 8.76 -0.22
112 -6.76 0 -6.76 5.17 2 7.17 0.41
113.3 -3.76 0 -3.76 2.49 3.3 5.79 2.03
103.8 -12.07 0 -12.07 13.44 0 13.44 1.37
112.8 0 -3.65 2.85 7.26 3.61
5 -3.65 4.41
110.0 0 -6.57 0.05 7.3 0.73
5 -6.57 7.25
105.4 -10.95 0 -10.95 12 0 12 1.05
105.9 0 -12.08 0 11.48 -0.6
5 -12.08 11.48
106.1 0 -11.67 0 11.31 -0.36
5 -11.67 11.31
106.0 0 -12.65 0 11.45 -1.2
5 -12.65 11.45
103.8 -11.78 0 -11.78 13.73 0 13.73 1.95
107.2 0 -9.23 0 10.37 1.14
5 -9.23 10.37
110.8 0 -7.34 0 6.81 -0.53
5 -7.34 6.81
106.4 0 -10.87 0 11.24 0.37
5 -10.87 11.24
108 -8.65 0 -8.65 9.72 0 9.72 1.07
104.3 -6.98 0 -6.98 8.76 0 8.76 1.78
102.2 -7.96 0 -7.96 9.09 0 9.09 1.13
104.5 -7.56 0 -7.56 8.45 0 8.45 0.89
Graph:
120

100

80

60
Spot
Total P& L
40

20

0
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20
-20

Analysis:

This graph shows that as the spot price of the GUJARAT AMBUJA script increase or
decrease the profit and changes in the same way.
In this strategy the speculator gains the net option premium while creating the spread
since a long call at a higher strike price is lower than the premium received on a short call
with a low strike price.
In this strategy we will buy higher strike price calls and sell at lower strike price
calls.
From the above chart we can get a minimum profit of Rs 0.37 at a spot price 106.45
And we can get a maximum profit of Rs 2.61 at a spot price 111.70
FINDINGS

1. Sector: AUTOMOBILE
Company: MARUTI UDYOG and TATA MOTARS

By using call option the option holder can get a maximum profit in TATA MOTARS and
minimum in MARUTI

2. Sector: CEMENT
Company: ACC and GUJARAT AMBUJA

By using call option and put option the option holder can get a maximum profit in ACC and
minimum in GUJARAT AMBUJA

FINDINGS SUMMURY

BULLISH CALL SPREAD BEARISH CALLSPREAD


Max. Min. Max. Min. Max. Min. Max. Min.
COMPANIES Profit Profit Loss Loss Profit Profit Loss Loss
1.Maruti
Udyog 9.63 0.86 12.72 0.76 18.22 0.76 3.43 0.86
2.Tata Motors 13.06 4.95 9.11 1.46 47.34 1.46 0 0
3.ACC 28.41 3.26 17.68 2.55 36.79 2.55 8.35 1.04
4.Gujarat
Ambuja 4.57 0.22 1.78 0.37 3.61 0.37 1.2 0.22
SUGGESTIONS

1. If the investors go for bullish vertical spread using calls, if the market moves against the
perception of the investor, it is advisable to sell the lower strike call.

2. If the market moves in accordance with the perception of the investor, it is advisable to
buy back the higher strike call and sell a call with higher strike.
3. If the investor go for bearish vertical spread using call, if the market moves against the
perception of the investor, it is advisable to buy back the lower strike.

4. If the market moves according to his perception, it is advisable to buy back lower strike
short position and sell a call with strike lower

LIMITATIONS
1. I have done the performance evaluation only for one year; from this data we
cannot get the results accurately.
2. I have chosen only two sectors, whereas there are numerous sectors available in
stock market.
3. Only some clients were traded in Future and Option segment.
4. Calculation of Option premium is very difficult to understand.

BIBLIOGRAPHY

5. Options & Futures (An Indian perspective)

By- D. C. Patwari and Anshul Bhargav

6. Capital Market and Financial Services


(Theory and Operations) By- P. Subramanian

7. NCFM derivatives – NSE India Limited

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