basics of option trading stock online option trading futures options trading

What is an option?
Option is a financial product whose price is based on its underlying instrument (or product) underlying instrument can be Index (Nifty, Jr.Nifty, Bank Nifty etc) stock, currency etc.

In other words - Options are derivative instruments, meaning that their prices are derived from the price of another security. More specifically, options prices are derived from the price of an underlying stock, index, currency etc

Following are few examples of options,

1. “Nifty option” is an Index option whose value is based on Nifty Index.
2. “Bank Nifty” option is also an Index option whose value is based on Bank Nifty Index.
3. Reliance industries option is a stock option whose value is based on Reliance stock.

The stocks and indices eligible for futures trading are also eligible for options trading.

Common terms to know
Buying and selling of options consist of strike price, expiry date and its value.

Options Strike Price
It is also called as exercise price. Strike price is the target price at which trader wish to sell or buy the options.

Options Expiry
Options get expired every last Thursday of the month.
In India options are available for trading of maximum 3 months.
For example - If current month is January then options available for trading will be January, February and March.

Current month options have more participation (traders) (In option language it is called as liquid) and goes on decreasing as you move towards buying next month options.

Options Value
It is the price which trader/investor pays to buy or sell an option.
As you precede reading you will understand more about these terms

Shorting call option (Short Sell)
Call option can also be shorted (short sell), but shorting of call requires future derivative margin.
For example - If you are shorting above mentioned Nifty call then you may have to pay Rs. 28,000 (approx at the time of writing this article), which is the margin required for Index future derivative.

The short selling of calls provides the trader/investor the benefit (profit) when the underlying (in above example underlying is Nifty) moves in downward direction.

Please note - The margin amount changes everyday based on the price of the underlying asset.

Contact us for latest margin amount.

2) Put option -
   Simple meaning - Put option is bought when the underlying (Nifty, Jr.Nifty, Bank Nifty etc or stock) is expected to go down.
   The financial Definition - A Put option gives the buyer the right to sell specified quantity of the underlying asset at the strike
   price on or before an expiry date.

Example of put option -
1200 Reliance Industries April put at Rs.15

Explanation of the above example is as follows

In above example trader is buying the one lot of Reliance Industries April Put expecting the Reliance stock price will come down to 1200 or even fall below.

How trader will get profit?
If the Reliance Industries stock price starts falling then the value of your put option (Rs.15) will starts increasing.

1200 - This is called the strike price

April - It is the expiry month.

Put - It is the option type.

Rs.15 - It is the price/value you are paying to buy one Reliance Industries stock. It is also called as premium.

One Reliance Industries lot size consists of 300 quantities.

So you are paying total Rs.15 x 300 Qty = Rs.4500 to buy one lot of Reliance put.

Shorting put option (Short Sell)
Put option can also be shorted (short sell), but shorting of Put option requires future derivative margin.
For example - If you are shorting same above Reliance Put then you may have to pay the Reliance Industries future derivative margin.
(The price can approximately around 2 lakhs)

In put short sell, the traders will get benefit (profit) when the underlying (in above example underlying is Reliance Industries) will starts increasing.

Please note - The margin amount changes everyday based on the price of the underlying (in above example underlying is Reliance).
Contact us for margin amount

Options Buying/selling Format
Basically there are 3 formats
1. At the money
2. In the money
3. Out of money

1. At the money Call and Put option
    At the money call or put means buying the call or put whose strike price is same as the its underlying products (underlying products
    like Nifty, Bank nifty etc or stock).
    For example - If Nifty Index is trading at 3000 and if you are planning to buy either call or put whose strike price is 3000 then it is
    called as “At the money call or put”.

2. In the money Call and Put
    i) In the Money Call - Buying the call whose strike price is below the currently trading underlying price is called as “In the money call”.
       Example - If the current value of the Nifty Index is at 3000 and if you are planning to buy the call whose strike price is 2900 then it is
       called as “In the money call”.

    ii) In the money put - Buying the put whose strike price is above the currently trading underlying price is called as “In the money put”.
       Example - If the current value of Nifty Index at 2650 and if you are planning to buy the put whose strike price is 2850 then it is called
       as “In the money put”.

3. Out of money Call and Put
    i) Out of money Call - Buying the call whose strike price is above the currently trading underlying price is called as “Out of money Call”
       Example - If the current price if the Nifty Index is at 2500 and if you are planning to buy the Call whose strike price is 2650 then it is
       called as “Out of money call”

    ii) Out of money Put - Buying the put whose strike price is below the currently trading underlying price is called as “Out of money put”.
       Example - If the current price of the Nifty Index is at 2900 and if you are planning to buy the put whose strike price is 2800 then it is
       called as “Out of money put”.

Example of Call option
2700 Nifty March call at Rs.90.

Explanation of the above example is as follows

a) In above example you are buying one lot of Nifty March call.
b) Call - It is the option type (call & put are two types of options).
c) 2700 - It is called as strike price. Trader is expecting that the Nifty will reach or cross the strike 2700 so that he can get the profit.
d) Nifty - It is the Nifty Index whose call option you are buying. In other words it is the underlying asset.
e) March - It is the expiry month
f) Rs. 90 - It is called as the value or premium. It is price at which trader is buying the one lot of Nifty March call. It is the price you are
paying to buy one Nifty quantity.
One Nifty lot consist of 50 quantity so you are paying total Rs.90 x 50 Qty = Rs.4500 to buy one lot of Nifty call option.

How the trader will get profit?
If the Nifty Index start increasing toward 2700, then its value (Rs.90), will also starts increasing and once the Nifty crosses 2700 then the price starts increasing rapidly because the Nifty has crossed your strike price (which is at Rs.2700).

Disclaimer: Information presented on this site is a guide only. It may not necessarily be correct and is not intended to be taken as financial advice nor has it been prepared with regard to the individual investment needs and objectives or financial situation of any particular person. Stock quotes are believed to be accurate and correctly dated, but www.daytradingshares.com does not warrant or guarantee their accuracy or date.
www.daytradingshares.com takes no responsibility for any investment decisions based on recommendations provided on website.
Financial contents like Technical charts, historical charts and quotes are taken from NSE and Yahoo sites.
Note - All quotes are delayed by 15 minutes and unless specified.
Please read at www.daytradingshares.com/disclaimer.php before using any material or advice given at www.daytradingshares.com
Copyright © 2009 DayTradingShares.com. All Rights Reserved.