Derivatives (Futures and Options) MBA Project

Derivatives (Futures & Options)

INTRODUCTION OF DERIVATIVES The emergence of the market for derivative products, most notably forwards, futures and options, can be traced back to the willingness of risk-averse economic agents to guard themselves against uncertainties arising out of fluctuations in asset prices. By their very nature, the financial markets are marked by a very high degree of volatility. Through the use of derivative products, it is possible to partially or fully transfer price risks by locking-in asset Prices. As instruments of risk management, these generally do not influence the Fluctuations in the underlying asset prices. owever, by locking-in asset prices, !erivative products minimi"e the impact of fluctuations in asset prices on the Profitability and cash flow situation of risk-averse investors. !erivatives are risk management instruments, which derive their value from an underlying asset. The underlying asset can be bullion, inde#, share, bonds, $urrency, interest, etc., Banks, %ecurities firms, companies and investors to hedge risks, to gain access to cheaper money and to make profit, use derivatives. !erivatives are likely to grow even at a faster rate in future. DEFINITION OF DERIVATIVES &!erivative is a product whose value is derived from the value of an underlying asset in a contractual manner. commodity or any other asset.( ? %ecurities $ontract ) regulation* Act, +,-. )%$)/* A*defines &debt instrument, share, loan whether secured or unsecured, risk instrument or contract for differences or any other form of security( ? A contract which derives its value from the prices, or inde# of prices, of underlying securities. 1 The underlying asset can be e'uity, Fore#,

Derivatives (Futures & Options)

HISTORY OF DERIVATIVES MARKETS 0arly forward contracts in the 1% addressed merchants concerns about ensuring that there were buyers and sellers for commodities. owever &credit risk( remained a serious problem. To deal with this problem, a group of $hicago2 businessmen formed the Chicago Board of Trade (CBOT in 1!"!. The primary intention of the CBOT was to provide a centrali"ed location known 3n advance for buyers and sellers to negotiate forward contracts. 3n +4.-, the $B5T went one step further and listed the first &e#change traded( derivatives $ontract in the 1%2 these contracts were called &futures contracts(. 3n +,+,, $hicago Butter and 0gg Board, a spin-off $B5T was reorgani"ed to allow futures trading. 3ts name was changed to Chicago Merca#$i%e E&cha#ge (CME . The $B5T and the $60 remain the two largest organi"ed futures e#changes, indeed the two largest &financial( e#changes of any kind in the world today. The first stock inde# futures contract was traded at Ka#'a' Ci$( Board of Trade. $urrently the most popular stock inde# futures contract in the world is based on S)* +,, i#de&- traded on $hicago 6ercantile 0#change. !uring the 6id eighties, financial futures became the most active derivative instruments 7enerating volumes many times more than the commodity futures. 3nde# futures, futures on T-bills and 0uro-!ollar futures are the three most popular Futures contracts traded today. 5ther popular international e#changes that trade derivatives are .IFFE in E#g%a#d- DTB in /er0a#(- S/1 in Si#ga2oreTIFFE in 3a2a#, MATIF in France, E4re& etc.,

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Derivatives (Futures & Options)

THE /RO5TH OF DERIVATIVES MARKET 5ver the last three decades, the derivatives markets have seen a phenomenal growth. A large variety of derivative contracts have been launched at e#changes across the world. %ome of the factors driving the growth of financial derivatives are8 ? 3ncreased volatility in asset prices in financial markets, ? 3ncreased integration of national financial markets with the international markets, ? 6arked improvement in communication facilities and sharp decline in their costs, ? !evelopment of more sophisticated risk management tools, providing economic agents a wider choice of risk management strategies, and ? 3nnovations in the derivatives markets, which optimally combine the risks and returns over a large number of financial assets leading to higher returns, reduced risk as well as transactions costs as compared to individual financial assets.

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Derivatives (Futures & Options)

DERIVATIVE *RODUCTS (TY*ES The following are the various types of derivatives. They are8 For6ard'7 A forward contract is a customi"ed contract between two entities, where settlement takes place on a specific date in the future at today9s pre-agreed price. F4$4re'7 A futures contract is an agreement between two parties to buy or sell an asset at a certain time in the future at a certain price. Futures contracts are special types of forward contracts in the sense that the former are standardi"ed e#change-traded contracts. O2$io#'7 5ptions are of two types-calls and puts. $alls give the buyer the right but not the obligation to buy a given 'uantity of the underlying asset, at a given price on or before a given future date. Puts give the buyer the right, but not the obligation to sell a given 'uantity of the underlying asset at a given price on or before a given date. 5arra#$'7 5ptions generally have lives of upto one year2 the marity of options traded on options e#changes having a ma#imum maturity of nine months. ;onger-dated options are called warrants and are generally traded 5ver-the-counter. .ea2'7 The acronym ;0AP% means ;ong-Term 0'uity Anticipation %ecurities. These are options having a maturity of upto three years.

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Derivatives (Futures & Options)

Ba'8e$'7 Basket options are options on portfolio of underlying assets. The underlying asset is usually a moving average of a basket of assets. 0'uity inde# options are a form of basket options. S6a2'7 %waps are private agreement between two parties to e#change cash flows in the future according to a prearranged formula. They can be regarded as portfolios of forward contracts. The two commonly used swaps are8 ? I#$ere'$ ra$e '6a2'7 The entail swapping only the interest related cash flows between the parties in the same currency. ? C4rre#c( '6a2'7 These entail swapping both principal and interest between the parties, with the cashflows in one direction being in a different currency than those in the opposite direction. S6a2$io#'7 %waptions are options to buy or sell a swap that will become operative at the e#piry of the options. Thus a swaption is an option on a forward swap. /ather than have calls and puts, the swaptions market has receiver swaptions and payer swaptions. A receiver swaption is an option to receive fi#ed and pay floating. A payer swaption is an option to pay fi#ed and received floating.

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Derivatives (Futures & Options)

*ARTICI*ANTS IN THE DERRIVATIVES MARKETS The following three broad categories of participants8 HED/ERS7 edgers face risk associated with the price of an asset. They use futures or options markets to reduce or eliminate this risk. S*ECU.ATORS7 %peculators wish to bet on future movements in the price of an asset. Futures and options contracts can give them an e#tra leverage2 that is, they can increase both the potential gains and potential losses in a speculative venture. ARBITRA/EURS7 Arbitrageurs are in business to take advantage of a discrepancy between prices in two different markets. 3f, for e#ample they see the futures prices of an asset getting out of line with the cash price, they will take offsetting positions in the two markets to lock in a profit. FUNCTIONS OF THE DERIVATIVES MARKET 3n spite of the fear and criticism with which the derivative markets are commonly looked at, these markets perform a number of economic functions. ? Price in an organi"ed derivative markets reflect the perception of market participants about the future and lead the prices of underlying to the perceived future level. The prices of derivatives converge with the prices of the underlying at the 0#piration of the derivative contract. discovery of future as well as current prices. ? The derivative markets helps to transfer risks from those who have them but may not like them to those who have an appetite for them. 1 Thus derivatives help in

Derivatives (Futures & Options)

? !erivative due to their inherent nature, are linked to the underlying cash markets. <ith the introduction of derivatives, the underlying market witness higher trading volumes because of participation by more players who would not otherwise participate for lack of an arrangement to transfer risk. ? %peculative trades shift to a more controlled environment of derivatives market. 3n the absence of an organi"ed derivatives market, speculators trade in the underlying cash markets. difficult in these kinds of mi#ed markets. ? An important incidental benefit that flows from derivatives trading is that it acts as a catalyst for new entrepreneurial activity. The derivatives have a history of attracting many bright, creative, <ell-educated people with an entrepreneurial attitude. They often energi"e others to create new businesses, new products and new employment opportunities, the benefit of which are immense. 6argining, monitoring and surveillance of the activities of various participants become e#tremely

SCO*E OF THE STUDY The %tudy is limited to 9Deri:a$i:e'; with special reference to futures and 5ption in the 3ndian conte#t and the I#$er<Co##ec$ed S$oc8 E&cha#ge have been Taken as a representative sample for the study. The study can9t be said as totally perfect. Any alteration may come. The study has only made a humble Attempt at evaluation derivatives market only in 3ndia conte#t. The study is not Based on the international perspective of derivatives markets, which e#ists in NASDA=- CBOT etc.,

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Derivatives (Futures & Options)

OB3ECTIVES OF THE STUDY ? To analy"e the derivatives market in 3ndia. ? To analy"e the operations of futures and options. ? To find the profit=loss position of futures buyer and also The option writer and option holder. ? To study about risk management with the help of derivatives. .IMITATIONS OF THE STUDY The following are the limitation of this study. ? The scrip chosen for analysis is OI. ) NATURA. /AS COR*ORATION .TD and the contract taken is March >,,? ending o#e<0o#$h contract. ? The data collected is completely restricted to the OI. ) NATURA. /AS COR*ORATION .TD of March >,,?@ hence this analysis cannot be taken universal.

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Derivatives (Futures & Options)

NATURE OF THE *ROB.EM The turnover of the stock e#change has been tremendously increasing form ;ast +> years. The number of trades and the number of investors, who are participating, have increased. The investors are willing to reduce their risk, so they are seeking for the risk management tools. Prior to SEBI abolishing the BAD.A system, the investors had this system as a source of reducing the risk, as it has many problems like no strong margining %ystem, unclear e#piration date and generating counter party risk. 3n view of this problem SEBI abolished the BAD.A system. After the abolition of the BAD.A system, the investors are seeking for a edging system, which could reduce their portfolio risk. %0B3 thought the 3ntroduction of the derivatives trading, as a first step it has set up a >" 0e0Aer Co00i$$ee under the chairmanship of DrB.BCB/42$a to develop the appropriate Framework for derivatives trading in 3ndia, %0B3 accepted the recommendation of the committee on Ma( 11- 1CC! and approved the phase introduction of the !erivatives trading beginning with stock inde# futures. There are many investors who are willing to trade in the derivatives segment, Because of its advantages like limited loss unlimited profit by paying the small Premiums. THE DEVE.O*MENT OF DERIVATIVES MARKET olding portfolios of %ecurities is associated with the risk of the possibility that the investor may reali"e his returns, which would be much lesser than what he e#pected to get. There are various factors, which affect the returns8 1. Price or dividend )interest* 1

Derivatives (Futures & Options)

2. %ome are internal to the firm like • 3ndustrial policy • 6anagement capabilities • $onsumer9s preference • ;abor strike, etc., These forces are to a large e#tent controllable and are termed as non systematic risks. An investor can easily manage such non-systematic by having a <elldiversified portfolio spread across the companies, industries and groups so that a loss in one may easily be compensated with a gain in other. There are yet other of influence which are e#ternal to the firm, cannot be controlled and affect large number of securities. They are termed as systematic /isk. They are8 +. 0conomic ?. political @. %ociological changes are sources of systematic risk For instance, inflation, interest rate, etc. Their effect is to cause prices if nearly All-individual stocks to move together in the same manner. <e therefore 'uite often find stock prices falling from time to time in spite of company9s earning rising and vice versa. /ational Behind the development of derivatives market is to manage this systematic risk, li'uidity in the sense of being able to buy and sell relatively large amounts 'uickly without substantial price concession. 3n debt market, a large position of the total risk of securities is systematic. !ebt instruments are also finite life securities with limited marketability due to their small si"e relative to many common sticks. Those factors favour for the purpose 1

Derivatives (Futures & Options)

of both portfolio hedging and speculation, the introduction of a derivatives securities that is on some broader market rather than an individual security. /.OBA. DERIVATIVES MARKET The global financial centers such as $hicago, Aew Bork, Tokyo and ;ondon dominate the trading in derivatives. %ome of the world9s leading e#changes for the e#change-traded derivatives are8 ? $hicago 6ercantile e#change )$60* and ;ondon ) for 3nternational Financial Futures 0#change );3FF0* currency C 3nterest rate futures* ? Philadelphia %tock 0#change)P%0*, ;ondon %tock 0#change );%0* C $hicago Board 5ptions 0#change )$B50* ) for currency options* ? Aew Bork %tock 0#change )AB%0* and ;ondon %tock 0#change );%0* )for e'uity derivatives* ? $hicago 6ercantile 0#change)$60* and ;ondon 6etal 0#change );60* ) for $ommodities* These e#changes account for a large portion of the trading volume in the respective derivatives segment. NSED' DERIVATIVES MARKET The derivatives trading on the A%0 commenced with S)* CN1 Nif$( inde# Futures on 34#e 1>- >,,,B The trading in inde# options commenced on 34#e ">,,1 and trading in options on individual securities commenced on 34%( >- >,,1 %ingle stock futures were launched on No:e0Aer C- >,,1. Today, both in terms of volume and turnover, A%0 is the largest derivatives e#change in 3ndia. $urrently, the derivatives contracts have a ma#imum of E<0o#$h e&2ira$io# cyclesB Three co#$rac$' are available for trading, with 1 0o#$h- > 0o#$h a#d E 0o#$h e#piry.

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Derivatives (Futures & Options)

A new contract is introduced on the #e&$ $radi#g da( following of the near month contract. RE/U.ATORY FRAME5ORK The trading of derivatives is governed by the provisions contained in the %$)/* A, the %0B3 Act, the rules and regulations framed there under and the rules and bye-laws of stock e#changes. 3n this chapter we look at the broad regulatory framework for derivatives trading and the re'uirement to become a member and an authori"ed dealer of the FC5 segment and the position limits as they apply to various participants. Reg4%a$io# for deri:a$i:e' $radi#g7 %0B3 set up a >"<0e0Aer' co00i$$ee under the $hairmanship of DrB.BCB/U*TA to develop the appropriate regulatory framework for derivatives trading in 3ndia. 5n Ma( 11- 1CC! %0B3 accepted the recommendations of the committee and approved the phased introduction of derivatives trading in 3ndia beginning with stock inde# futures. The provision in the %$)/* A and the regulatory framework developed there under govern trading in securities. The amendment of the %$)/* A to include derivatives within the ambit of &securities( in the %$)/* A made trading in derivatives possible within the framework of that Act. ? Any 0#change fulfilling the eligibility criteria as prescribed in the ;.$.7upta committee report can apply to %0B3 for grant of recognition under %ection D of the %$)/* A, +,-. to start trading derivatives. The derivatives e#change=segment should have a separate governing council and representation of trading=clearing members shall be limited to ma#imum of ",F of the total members of the governing council. The e#change would have to regulate the sales practices of its members and 1

Derivatives (Futures & Options)

would have to obtain prior approval of %0B3 before start of trading in any derivative contract. ? The 0#change should have minimum +, 0e0Aer'B ? The members of an e#isting segment of the e#change would not automatically become the members of derivative segment. The members of the derivative segment would need to fulfill the eligibility conditions as laid down by the .BCB/42$a co00i$$eeB ? The clearing and settlement of derivatives trades would be through a %0B3 approved c%eari#g cor2ora$io#Gho4'e. $learing corporations=houses complying with the eligibility as laid down by the committee have to apply to %0B3 for grant of approval. ? !erivatives brokers=dealers and clearing members are re'uired to seek registration from %0B3. This is in addition to their registration as brokers of e#isting stock e#changes. The minimum net worth for clearing members of the derivatives clearing corporation=house shall be R'BE,, .a8h. The net worth of the member shall be computed as follows 8 ? $apital E Free reserves ? ;ess non-allowable assets vi"., • Fi#ed assets • Pledged securities • 6ember9s card • Aon-allowable securities ) unlisted securities* • Bad deliveries • !oubtful debts and advances 1

Derivatives (Futures & Options)

• Prepaid e#penses • 3ntangible assets • @> F marketable securities ? The minimum contact value shall not be less than R'B> .a8h. 0#changes have to submit details of the futures contract they propose to introduce. ? The initial margin re'uirement, e#posure limits linked to capital ade'uacy and margin demands related to the risk of loss on the position will be prescribed by %0B3 = 0#changed from time to time. ? The ;.$.7upta committee report re'uires strict enforcement of &Gnow your customer &rule and re'uires that every client shall be registered with the derivatives broker. The members of the derivatives segment are also re'uired to make their clients aware of the risks involved in derivatives trading by issuing to the clients the /isk !isclosure and obtain a copy of the same duly signed by the clients. ? The trading members are re'uired to have 'ualified approved user and sales person who have passed a certification programmed approved by %0B3.
E.I/IBI.ITY OF ANY STOCK TO ENTER IN DERIVATIVES MARKET

? Aon Promoter holding ) free float capitali"ation * not less than R'B ?+, Crore' from %a'$ H 0o#$h' ? !aily Average Trading value not less than + Crore' in last H Mo#$h' ? At least C,F of Trading days in %a'$ H 0o#$h' ? Aon Promoter olding at least E,F 1

Derivatives (Futures & Options)

? B0TA not more than " ) previous last . months *

DESCRI*TION OF THE METHOD The following are the steps involved in the study. Se%ec$io# of $he 'cri27< The scrip selection is done on a random and the scrip selected is OI. ) NATURA. /AS COR*ORATION .TDB The %o$ i' >>+. Profitability position of the futures buyers and seller and also the option holder and option writers is studied. Da$a Co%%ec$io#7< The data of the ON/C .$d has been collected from the 9$he Eco#o0ic Ti0e'; and the i#$er#e$B The data consist of the March Co#$rac$ and period of !ata collection is from >Erd FEBRUARY >,,? < >C$h MARCH >,,?B A#a%('i'7< The analysis consist of the tabulation of the data assessing the profitability Positions of the futures buyers and sellers and also option holder and the option <riter, representing the data with graphs and making the interpretation using !ata.

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Derivatives (Futures & Options)

INTRODUCTION OF FUTURES Futures markets were designed to solve the problems that e#ist in forward markets. A futures contract is an agreement between two parties to buy or sell an asset at a certain time in the future at a certain price. But unlike forward contract, the futures contracts are standardi"ed and e#change traded. To facilitate li'uidity in the futures contract, the e#change specifies certain standard features of the contract. 3t is standardi"ed contract with standard underlying instrument, a standard 'uantity and 'uality of the underlying instrument that can be delivered, )5r which can be used for reference purpose in settlement* and a standard timing of such settlement. A futures contract may be offset prior to maturity by entering into an e'ual and opposite transaction. 6ore than ,>F of futures transactions are offset this way. The standardi"ed items in a futures contract are8 • Huantity of the underlying • Huality of the underlying • The date and the month of delivery • The units of price 'uotation and minimum price change • ;ocation of settlement DIFINITION A Futures contract is an agreement between two parties to buy or sell an asset at a certain time in the future at a certain price. Futures contracts are special

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Derivatives (Futures & Options)

types of forward contracts in the sense that the former are standardi"ed e#changetraded contracts.

HISTORY OF FUTURES Mer$o# Mi%%er- the +,,> Aobel ;aureate had said that &financial futures represent the most significant financial innovation of the last twenty years.( The first e#change that traded financial derivatives was launched in Chicago in the year 1C?>. A division of the Chicago Merca#$i%e E&cha#ge, it was called the international monetary market )366* and traded currency futures. The brain behind this was a man called ;eo 6elamed, acknowledged as the &father of financial futures( who was then the $hairman of the $hicago 6ercantile 0#change. Before 366 opened in +,I?, the $hicago 6ercantile 0#change sold contracts whose value was counted in millions. By +,,>, the underlying value of all contracts traded at the $hicago 6ercantile 0#change totaled -> trillion dollars. These currency futures paved the way for the successful marketing of a di""ying array of similar products at the $hicago 6ercantile 0#change, the $hicago Board of Trade and the $hicago Board 5ptions 0#change. By the +,,>s, these e#changes were trading futures and options on everything from Asian and American stock inde#es to interest-rate swaps, and their success transformed $hicago almost overnight into the risk-transfer capital of the world.

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Derivatives (Futures & Options)

DISTINCTION BET5EEN FUTURES AND FOR5ARDS CONTRACTS

Forward contracts are often confused with futures contracts. The confusion is primarily because both serve essentially the same economic functions of allocating risk in the presence of futures price uncertainty. owever futures are a significant improvement over the forward contracts as they eliminate counterparty risk and offer more li'uidity. $omparison between two as follows8

FUTURES 1.Trade on >.%tandardi"ed contract terms

FOR5ARDS an 1. 5T$ in nature >.$ustomi"ed contract terms E. hence less li'uid ". Ao margin payment +. %ettlement happens at end of period

5rgani"ed 0#change

E. hence more li'uid ". /e'uires margin payment +. Follows daily %ettlement

TaA%e >B1

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Derivatives (Futures & Options)

FEATURES OF FUTURES • Futures are highly standardi"ed. • The contracting parties need not pay any down payment. • edging of price risks.

• They have secondary markets too. TY*ES OF FUTURES 5n the basis of the underlying asset they derive, the futures are divided into two types8 • • %tock Futures 3nde# Futures

*ARTIES IN THE FUTURES CONTRACT There are two parties in a futures contract, the buyers and the seller. The buyer of the futures contract is one who is ;5A7 on the futures contract and the seller of the futures contract is who is % 5/T on the futures contract. The pay-off for the buyers and the seller of the futures of the contracts are as follows8

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Derivatives (Futures & Options)

*AY<OFF FOR A BUYER OF FUTURES

P

PROFIT

E

2

LOSS

F

E

1

L

Fig4re >B1 CASE 17< The buyers bought the futures contract at )F*2 if the futures Price 7oes to 0+ then the buyer gets the profit of )FP*. CASE >7< The buyers gets loss when the futures price less then )F*2 if The Futures price goes to 0? then the buyer the loss of )F;*.

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Derivatives (Futures & Options)

*AY<OFF FOR A SE..ER OF FUTURES

P PROFIT

E E
1

F

2

LOSS L

Fig4re >B> F J F1T1/0% P/3$0 0+, 0? J %0T;060AT P/3$0 CASE 17< The seller sold the future contract at )F*2 if the future goes to 0+ Then the seller gets the profit of )FP*. CASE >7< The seller gets loss when the future price goes greater than )F*2 3f the future price goes to 0? then the seller get the loss of )F;*.

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Derivatives (Futures & Options)

MAR/INS 6argins are the deposits which reduce counter party risk, arise in a futures contract. These margins are collect in order to eliminate the counter party risk. There are three types of margins8 I#i$ia% Margi#'7< <henever a future contract is signed, both buyer and seller are re'uired to post initial margins. Both buyers and seller are re'uired to make security deposits that are intended to guarantee that they will infect be able to fulfill their obligation. These deposits are initial margins and they are often referred as purchase price of futures contract. Mar8 $o 0ar8e$ 0argi#'7< The process of ad:usting the e'uity in an investor9s account in order to reflect the change in the settlement price of futures contract is known as 6T6 margin. Mai#$e#a#ce 0argi#7< The investor must keep the futures account e'uity e'ual to or greater than certain percentage of the amount deposited as initial margin. 3f the e'uity goes less than that percentage of initial margin, then the investor receives a call for an additional deposit of cash known as maintenance margin to bring the e'uity up to the initial margin. RO.E OF MAR/INS The role of margins in the futures contract is e#plained in the following e&a02%e7 %iva /ama Grishna sold an 5A7$ Kuly futures contract to Aagesh at /s..>>2 the following table shows the effect of margins on the $ontract. The contract si"e of 1

Derivatives (Futures & Options)

5A7$ is +4>>. The initial margin amount is say /s. @>,>>> the maintenance margin is .-F of initial margin.

*RICIN/ FUTURES Pricing of futures contract is very simple. 1sing the cost-of-carry logic, we calculate the fair value of a future contract. 0very time the observed price deviates from the fair value, arbitragers would enter into trades to captures the arbitrage profit. This in turn would push the futures price back to its fair value. The cost of carry model used for pricing futures is given below. F I SerT <here8 F % r T e J J J J J Futures price %pot Price of the 1nderlying $ost of financing )using continuously compounded 3nterest rate* Time till e#piration in years ?.I+4?4 )5/* F I S (1Jr< K $ <here8 F % r ' J J J J Futures price %pot price of the underlying $ost of financing )or* interest /ate 0#pected dividend yield 1

Derivatives (Futures & Options)

t

J

olding Period

FUTURES TERMINO.O/Y S2o$ 2rice7 The price at which an asset trades in the spot market. F4$4re' *rice7 The price at which the futures contract trades in the futures market. Co#$rac$ c(c%e7 The period over which a contract trades. The inde# futures contracts on the A%0 have one-month and three-month e#piry cycles which e&2ire o# $he %a'$ Th4r'da( of $he 0o#$hB Thus a Kanuary e#piration contract e#pires on the last Thursday of Kanuary and a February e#piration contract ceases trading on the last Thursday of February. 5n the Friday following the last Thursday, a new contract having a three-month e#piry is introduced for trading. E&2ir( da$e7 3t is the date specified in the futures contract. This is the last day on which the contract will be traded, at the end of which it will cease to e#ist. Co#$rac$ 'iLe7 The amount of asset that has to be delivered under one contract. For instance, the contract si"e on A%09s futures markets is ?>> Aifties. Ba'i'7 3n the conte#t of financial futures, basis can be defined as the futures price minus the spot price. These will be a different basis for each delivery month for each contract. 3n a normal market, basis will be positive. This reflects that futures prices normally e#ceed spot prices. 1

Derivatives (Futures & Options)

Co'$ of carr(7 The relationship between futures prices and spot prices can be summari"ed in terms of what is known as the cost of carry. This measures the storage cost plus the interest that is paid to finance the asset less the income earned on the asset. I#i$ia% 0argi#7 The amount that must be deposited in the margin account at the time a futures contract is first entered into is known as initial margin. Mar8i#g<$o<0ar8e$7 3n the futures market, at the end of each trading day, the margin account is ad:usted to reflect the investor9s gain or loss depending upon the futures closing price. This is called marking-to-market. Mai#$e#a#ce 0argi#7 This is some what lower than the initial margin. This is set to ensure that the balance in the margin account never becomes negative. 3f the balance in the margin account falls below the maintenance margin, the investor receives a margin call and is e#pected to top up the margin account to the initial margin level before trading commences on the ne#t day.

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Derivatives (Futures & Options)

INTRODUCTION TO O*TIONS 3n this section, we look at the ne#t derivative product to be traded on the A%0, namely options. 5ptions are fundamentally different from forward and futures contracts. An option gives the holder of the option the right to do something. The holder does not have to e#ercise this right. 3n contrast, in a forward or futures contract, the two parties have committed themselves to doing something. <hereas it costs nothing )e#cept margin re'uirement* to enter into a futures contracts, the purchase of an option re'uires as up-front payment. DEFINITION 5ptions are of two types- calls and puts. $alls give the buyer the right but not the obligation to buy a given 'uantity of the underlying asset, at a given price on or before a given future date. Puts give the buyers the right, but not the obligation to sell a given 'uantity of the underlying asset at a given price on or before a given date. HISTORY OF O*TIONS Although options have e#isted for a long time, they we traded 5T$, without much knowledge of valuation. The fir'$ $radi#g in options began in E4ro2e and the US as early as the 'e:e#$ee#$h ce#$4r(. 3t was only in the early +,>>s that a group of firms set up what was known as the put and call Brokers and !ealers Association with the aim of providing a mechanism for bringing buyers and sellers together. 3f someone wanted to buy an option, he or she would contact one of the member firms. The firms would then attempt to find a seller or writer of the option 1

Derivatives (Futures & Options)

either from its own clients of those of other member firms. 3f no seller could be found, the firm would undertake to write the option itself in return for a price. This market however suffered form two deficiencies. First, there was no secondary market and second, there was no mechanism to guarantee that the writer of the option would honour the contract. 3n 1C?E- B%ac8, Mer$o# and 'cho%e' invented the famed B%ac8<Scho%e' formula. 3n April +,I@, $B50 was set up specifically for the purpose of trading options. The market for option developed so rapidly that by early9 4>s, the number of shares underlying the option contract sold each day e#ceeded the daily volume of shares traded on the NYSE. %ince then, there has been no looking back. 5ption made their first mar mark in financial history during the $4%i2<A4%A 0a#ia in 'e:e#$ee#$h<ce#$4r( Ho%%a#d. 3t was one of the most spectacular get rich 'uick brings in history. The first tulip was brought 3nto olland by a botany professor from Lienna. 5ver a decade, the tulip became the most popular and e#pensive item in !utch gardens. The more popular they became, the more Tulip bulb prices began rising. That was when options came into the picture. They were initially used for hedging. By purchasing a call option on tulip bulbs, a dealer who was committed to a sales contract could be assured of obtaining a fi#ed number of bulbs for a set price. %imilarly, tulip-bulb growers could assure themselves of selling their bulbs at a set price by purchasing put options. ;ater, however, options were increasingly used by speculators who found that call options were an effective vehicle for obtaining ma#imum possible gains on investment. As long as tulip prices continued to skyrocket, a call buyer would reali"e returns far in e#cess of those that could be obtained by purchasing tulip bulbs themselves. The writers of the put options also prospered as bulb prices spiraled since writers were able to keep the premiums and the options were never e#ercised. The tulip-bulb market collapsed in +.@. and a lot of speculators lost huge sums of money. 1 ardest hit

Derivatives (Futures & Options)

were put writers who were unable to meet their commitments to purchase Tulip bulbs.

*RO*ERTIES OF O*TION 5ptions have several uni'ue properties that set them apart from other securities. The following are the properties of option8 • ;imited ;oss • igh leverages potential

• ;imited ;ife *ARTIES IN AN O*TION CONTRACT There are two participants in 5ption $ontract. B4(erGHo%derGO6#er of a# O2$io#7 The Buyer of an 5ption is the one who by paying the option premium buys the right but not the obligation to e#ercise his option on the seller=writer. Se%%erG6ri$er of a# O2$io#7 The writer of a call=put option is the one who receives the option premium and is thereby obliged to sell=buy the asset if the buyer e#ercises on him. TY*ES OF O*TIONS The 5ptions are classified into various types on the basis of various variables. The following are the various types of options. 1B O# $he Aa'i' of $he 4#der%(i#g a''e$7 5n the basis of the underlying asset the option are divided in to two types8 I#de& o2$io#'7

1

Derivatives (Futures & Options)

These options have the inde# as the underlying. %ome options are are also cash settled.

0uropean

while others are American. ;ike inde# futures contracts, inde# options contracts

S$oc8 o2$io#'7 %tock 5ptions are options on individual stocks. 5ptions currently trade on over ->> stocks in the 1nited %tates. A contract gives the holder the right to buy or sell shares at the specified price. >B O# $he Aa'i' of $he 0ar8e$ 0o:e0e#$' 7 5n the basis of the market movements the option are divided into two types. They are8 Ca%% O2$io#7 A call 5ption gives the holder the right but not the obligation to buy an asset by a certain date for a certain price. 3t is brought by an investor when he seems that the stock price moves upwards. *4$ O2$io#7 A put option gives the holder the right but not the obligation to sell an asset by a certain date for a certain price. 3t is bought by an investor when he seems that the stock price moves downwards. EB O# $he Aa'i' of e&erci'e of o2$io#7 5n the basis of the e#ercise of the 5ption, the options are classified into two $ategories. A0erica# O2$io#7

1

Derivatives (Futures & Options)

American options are options that can be e#ercised at any time up to the e#piration date. 6ost e#change Mtraded options are American. E4ro2ea# O2$io#7 0uropean options are options that can be e#ercised only on the e#piration date itself. 0uropean options are easier to analy"e than American options, and properties of an American option are fre'uently deduced from those of its 0uropean counterpart. *AY<OFF *ROFI.E FOR BUYER OF A CA.. O*TION The Pay-off of a buyer options depends on a spot price of an underlying asset. The following graph shows the pay-off of buyers of a call option.

R

PROFIT ITM

S ATM OTM E
1

E

2

LOSS

P

Fig4re >BE %J %p J 0+ J 0? J %/ J %trike price 3T6 J 3n the 6oney premium=loss AT6 J At the 6oney %pot price + 5T6 J 5ut of the 6oney %pot price ? Profit at spot price 0+ 1

Derivatives (Futures & Options)

CASE 17 )%pot Price N %trike price* As the %pot price )0+* of the underlying asset is more than strike price )%*. The buyer gets profit of )%/*, if price increases more than 0 + then profit also increase more than )%/* CASE >7 )%pot Price O %trike Price* As a spot price )0?* of the underlying asset is less than strike price )%* The buyer gets loss of )%P*2 if price goes down less than 0 ? then also his loss is limited to his premium )%P* *AY<OFF *ROFI.E FOR SE..ER OF A CA.. O*TION The pay-off of seller of the call option depends on the spot price of the underlying asset. The following graph shows the pay-off of seller of a call option8

PROFIT P ITM E ATM E
1 2

S OTM

R LOSS

%J %P J 0+ J 0? J %/ J

Fig4re >B" %trike price 3T6 J 3n the 6oney Premium = profit AT6 J At The money %pot Price + 5T6 J 5ut of the 6oney %pot Price ? loss at spot price 0?

CASE 17 )%pot price O %trike price* 1

Derivatives (Futures & Options)

As the spot price )0+* of the underlying is less than strike price )%*. The seller gets the profit of )%P*, if the price decreases less than 0 + then also profit of the seller does not e#ceed )%P*. CASE >7 )%pot price N %trike price* As the spot price )0?* of the underlying asset is more than strike price )%* the %eller gets loss of )%/*, if price goes more than 0? then the loss of the seller also increase more than )%/*.

*AY<OFF *ROFI.E FOR BUYER OF A *UT O*TION The Pay-off of the buyer of the option depends on the spot price of the underlying asset. The following graph shows the pay-off of the buyer of a call option.

PROFIT

R

ITM S E
1

E OTM

ATM

2

P

LOSS

%J %P J 0+ J 0? J %/ J

%trike price Premium = loss %pot price + %pot price ? Profit at spot price 0+

Fig4re >B+ 3T6 J 3n the 6oney AT6 J At the 6oney 5T6 J 5ut of the 6oney

CASE 17 )%pot price O %trike price* 1

Derivatives (Futures & Options)

As the spot price )0+* of the underlying asset is less than strike price )%*. The buyer gets the profit )%/*, if price decreases less than 0+ then profit also increases more than )%/*. CASE >7 )%pot price N %trike price* As the spot price )0?* of the underlying asset is more than strike price )%*, The buyer gets loss of )%P*, if price goes more than 0 ? than the loss of the buyer is limited to his premium )%P*.

*AY<OFF *ROFI.E FOR SE..ER OF A *UT O*TION The pay-off of a seller of the option depends on the spot price of the underlying asset. The following graph shows the pay-off of seller of a put option.

PROFIT P ITM E
1

ATM S R LOSS E
2

OTM

% J %P J 0+ J 0? J %/ J

%trike price Premium=profit %pot price + %pot price ? ;oss at spot price 0+

Fig4re >BH 3T6 J 3n The 6oney AT6 J At The 6oney 5T6 J 5ut of the 6oney

CASE 18 )%pot price O %trike price* 1

Derivatives (Futures & Options)

As the spot price )0+* of the underlying asset is less than strike price )%*, the seller gets the loss of )%/*, if price decreases less than 0 + than the loss also increases more than )%/*. CASE >7 )%pot price N %trike price* As the spot price )0?* of the underlying asset is more than strike price )%*, the seller gets profit of )%P*, of price goes more than 0 ? than the profit of seller is limited to his premium )%P*.

FACTORS AFFECTIN/ THE *RICE OF AN O*TION The following are the various factors that affect the price of an option they are8 S$oc8 *rice7 The pay-off from a call option is an amount by which the stock price e#ceeds the strike price. $all options therefore become more valuable as the stock price increases and vice versa. The pay-off from a put option is the amount2 by which the strike price e#ceeds the stock price. S$ri8e 2rice7 3n case of a call, as a strike price increases, the stock price has to make a larger upward move for the option to go in-the Mmoney. Therefore, for a call, as the strike price increases option becomes less valuable and as strike price decreases, option become more valuable. Ti0e $o e&2ira$io#7 Both put and call American options become more valuable as a time to e#piration increases. Vo%a$i%i$(7 The volatility of a stock price is measured of uncertain about future stock price movements. As volatility increases, the chance that the stock will do very well or Put options therefore become more valuable as the stock price increases and vice versa.

1

Derivatives (Futures & Options)

very poor increases. The value of both calls and puts therefore increases as volatility increase. Ri'8< free i#$ere'$ ra$e7 The put option prices decline as the risk-free rate increases where as the price of call always increases as the risk-free interest rate increases.

Di:ide#d'7 !ividends have the effect of reducing the stock price on the P- dividend rate. This has a negative effect on the value of call options and a positive effect on the value of put options. *RICIN/ O*TIONS An option buyer has the right but not the obligation to e#ercise on the seller. The worst that can happen to a buyer is the loss of the premium paid by him. is downside is limited to this premium, but his upside is potentially unlimited. This optionality is precious and has a value, which is e#pressed in terms of the option price. Kust like in other free markets, it is the supply and demand in the secondary market that drives the price of an option. There are various models which help us get close to the true price of an option. 6ost of these are variants of the celebrated Black- %choles model for pricing 0uropean options. Today most calculators and spread-sheets come with a built-in Black- %choles options pricing formula so to price options we don9t really need to memori"e the formula. All we need to know is the variables that go into the model. 1

Derivatives (Futures & Options)

The Black-%choles formulas for the price of 0uropean calls and puts on a nondividend paying stock are8

1

Derivatives (Futures & Options)

Ca%% o2$io# CA I SN (d1 M 1e< rT N (d> *4$ O2$io# *A I 1e< rT N (< d> M SN (< d1 5here d1 I %# (SG1 J (r J :>G> T :NT A#d d> I d1 < :NT <here CA J LA;10 5F $A;; 5PT35A *A J LA;10 5F P1T 5PT35A S J %P5T P/3$0 5F %T5$G N J A5/6A; !3%T/3B1T35A VARIANCE (V J L5;AT3;3TB 1 J %T/3G0 P/3$0 r J AAA1A; /3%G F/00 /0T1/A T J $5AT/A$T $B$;0 e J ?.I+4?4 r J ln )+ E r*

TaA%e >B>

O*TIONS TERMINO.O/Y O2$io# 2riceG2re0i408 5ption price is the price which the option buyer pays to the option seller. 3t is also referred to as the option premium. 1

Derivatives (Futures & Options)

E&2ira$io# da$e7 The date specified in the options contract is known as the e#piration date, the e#ercise date, the strike date or the maturity. S$ri8e 2rice7 The price specified in the option contract is known as the strike price or the e#ercise price. I#<$he<0o#e( o2$io#7 An in-the-6oney )3T6* option is an option that would lead to a positive cash flow to the holder if it were e#ercised immediately. A call option on the inde# is said to be in-the-money when the current inde# stands at a level higher than the strike price )i.e. spot price N strike price*. 3f the inde# is much higher than the strike price, the call is said to be deep 3T6. 3n the case of a put, the put is 3T6 if the inde# is below the strike price. A$<$he<0o#e( o2$io#7 An at-the-money )AT6* option is an option that would lead to "ero cash flow if it were e#ercised immediately. An option on the inde# is at-the-money when the current inde# e'uals the strike price )i.e. spot price J strike price*. O4$< ofM$he 0o#e( o2$io#7 An out-of-the-money )5T6* option is an option that would lead to a negative cash flow it was e#ercised immediately. A call option on the inde# is out-of-the-the money when the current inde# stands at a level which is less than the strike price )i.e. spot price O strike price*. 3f the inde# is much lower than the strike price, the call is said to be deep 5T6. 3n the case of a put, the put is 5T6 if the inde# is above the strike price. I#$ri#'ic :a%4e of a# o2$io#7

1

Derivatives (Futures & Options)

The option premium can be broken down into two components- intrinsic value and time value. The intrinsic value of a call is the amount the option is 3T6, if it is 3T6. 3f the call is 5T6, its intrinsic value is "ero. Ti0e :a%4e of a# o2$io#7 The time value of an option is the difference between its premium and its intrinsic value. Both calls and puts have time value. An option that is 5T6 or AT6 has only time value. 1sually, the ma#imum time value e#ists when the option is AT6. The longer the time to e#piration, the greater is an option9s time value, all else e'ual. At e#piration, an option should have no time value.

DISTINCTION BET5EEN FUTURES AND O*TIONS FUTURES +. 0#change traded, with Aovation ?. 0#change defines the product @. Price is "ero, strike price moves D. Price is Qero -. ;inear payoff .. Both long and short at risk O*TIONS +. %ame as futures ?. %ame as futures @. %trike price is fi#ed, price moves D. Price is always positive -. Aonlinear payoff .. 5nly short at risk

1

Derivatives (Futures & Options)

TaA%e >BE CA.. O*TION
PREMIUM STRIKE PRICE INTRINSIC VALUE TIME VALUE TOTAL VALUE CONTRACT OUT OF THE MONEY AT THE MONEY IN THE MONEY

560 540 520 500 480 460 440

0 0 0 0 20 40 60

2 5 10 15 10 5 2

2 5 10 15 30 45 62

TaA%e >B" *UT O*TION
PREMIUM INTRINSIC VALUE TIME VALUE TOTAL VALUE

STRIKE PRICE

CONTRACT

560 540 520 500

60 40 20 0

2 5 10 15

62 45 30 15

IN THE MONEY AT THE MONEY

1

Derivatives (Futures & Options)

480 460 440

0 0 0

10 5 2

10 5 2

OUT OF THE MONEY

TaA%e >B+ *REMIUM I INTRINSIC VA.UE J TIME VA.UE The differe#ce Ae$6ee# '$ri8e :a%4e' i' ca%%ed i#$er:a%

TRADIN/ INTRODUCTION The futures C 5ptions trading system of A%0, called A0AT-FC5 trading system, provides a fully automated screen-based trading for Aifty futures C options and stock futures C 5ptions on a nationwide basis as well as an online monitoring and surveillance mechanism. 3t supports an order driven market and provides complete transparency of trading operations. 3t is similar to that of trading of e'uities in the cash market segment. The software for the FC5 market has been developed to facilitate efficient and transparent trading in futures and options instruments. Geeping in view the familiarity of trading members with the current capital market trading system, modifications have been performed in the e#isting capital market trading system so as to make it suitable for trading futures and options. 5n starting A0AT )Aational 0#change for Automatic Trading* Application, the log on )Pass <ord* %creen Appears with the Following !etails. +* 1ser 3! ?* Trading 6ember 3! @* Password M A0AT $6 )default Pass word* D* Aew Pass <ord No$e7 < +* 1ser 3! is a 1ni'ue 1

Derivatives (Futures & Options)

?* Trading 6ember 3! is 1ni'ue C Function2 it is $ommon for all user of the Trading 6ember @* Aew password M 6inimum . $haracteristic, 6a#imum 4 characteristics only @ attempts are accepted by the user to enter the password9 to open the %creen D* 3f password is forgotten the 1ser re'uired to inform the 0#change in writing to reset the Password. TRADIN/ SYSTEM Aation wide-online-fully Automated %creen Based Trading %ystem )%BT%* • Price priority • Time Priority Aote8- +* A0AT system provides open electronic consolidated limit orders book )50$;5B* ?* ;imit order means8 %tated Huantity and stated price Before O2e#i#g $he 0ar8e$ 1ser allowed to set 1p +* 6arket <atch %creen ?* 3n'uiry %creens 5nly O2e# 2ha'e (O2e# *eriod 1ser allowed to +* 0n'uiry ?* 5rder 0ntry @* 5rder 6odification D* 5rder $ancellation -* 5rder 6atching Mar8e$ c%o'i#g 2eriod 1ser Allowed only for in'uiries 1

Derivatives (Futures & Options)

S4rco# 2eriod )%urveillance C $ontrol period* The %ystem process the !ate, for making the system, for the Ae#t Trading day. .og of $he Scree# (Before S4rco# *eriod The screen shows 8+* Permanent sign off ?* Temporary sign off @* 0#it *er0a#e#$ 'ig# off7 - market not updates. Te02orar( 'ig# off7 - market up date )temporary sign off, after - minutes Automatically Activate* E&i$7 < the user comes out sign off %creen. .oca% Da$aAa'e ;ocal !atabase is used for all in'uiries made by the user for 5wn 5rder=Trades 3nformation. 3t is used for corporate manager= Branch 6anager 6akes in'uiries for orders= trades of any branch manager =dealer of the trading firm, and then the in'uiry is %erviced By the host. The local database also includes message of security information. Tic8er 5i#do6 The ticker window displays information of All Trades in the system. The user has the option of %electing the %ecurity, which should be appearing in the ticker window. Sec4ri$ie' i# $ic8er ca# Ae 'e%ec$ed for each 0ar8e$ $(2e' The ticker window displays both derivative and capital market segment Mar8e$ 6a$ch 5i#do6 Title Bar8 Title Bar %hows8 A0AT, !ate C Time. 6arket watch window felicitate to set only ->> %crip9s, But the 1ser set up a 6a#imum of @> %ecurities in one Page. 1 Aot allowed in'uiry and 5rder Placing

Derivatives (Futures & Options)

*re:io4' Trade Scree# Previous trade screen shows C allows security wise information to user for his own trade in chronological order. +* re'uest for trade modification allowed with the following conditions • !uring the day only • 6ust be lower then the traded Huantity • Both Parties acceptance )Buyer and %eller* • Final !ecision is taken by A%0 )to accept or re:ect* ?* /e'uest for Trade $ancellation Allowed with same as Above $onditions )A*. O4$ S$a#di#g Order Scree# 5ut standing 5rder %creen show, %tatus out %tanding 5rder enter by 1ser for a particular security )/.;. 5rder C %; 5rder* it Allows 8- 5rder 6odification C 5rders $ancellation. Ac$i:i$( .og Scree# Activity logon screen show, all Activities performed on any order by the 1ser, in /eversal chronological 5rder B S Buying %elling 5rders

OC $ancellation of 5rder OM 6odifying 5rder TC B1B 5rder C %ell 5rder, 3nvolving in Trade are $ancelled TM By 5rder C %ell 5rders, involving Trade is 6odified 3t is very useful to a corporate manager to view all the activities that have been performed on any order )or* all ordered under his Branches C !ealers 1

Derivatives (Futures & Options)

Order '$a$4' Scree# 5rder %tatus %creen %hows, $urrent status of &dealers( own %pecified 5rders SNA* =4o$e Sho6' 3nstantaneous 3nformation About a particular %ecurity can be shown on 6arket watch window )which is not set up in market <atch window* Mar8e$ Mo:e0e#$ O2$io# 5ver all 6ovement of the %ecurity, in $urrent !ay, on time Basis.

Mar8e$ I#K4ir( 6arket 3n'uiry %creen %hows 6arket %tatistics for Particular 6arket, for a particular %ecurity. 3t shows information about8/; /! 5; 6arket 6arket 6arket )/egular lot 6arket* )/etail !ebt 6arket* )5dd lot 6arket* igh Price, ;ow Price, ;ast Traded

3t shows Following %tatistics8 - 5pen Price,

Price, Traded Huantity, -? <eeks high=;ow Price. MB* (Mar8e$ A( *rice 6BP )F.* %creen shows Total 5ut standing 5rders of a particular security, in the 6arket, Aggregate at each price in order of Best - prices. 3t %hows8 /; 5rder )/egular ;ot 5rder* %; 5rder )%top ;oss 5rder* %T 5rder )%pecial Term 5rders* Buy Back 5rder with RS9 %ymbol P J indicate Pre 5pen Position % J 3ndicate %ecurity %uspend 1

Derivatives (Futures & Options)

Sec4ri$(G *or$fo%io .i'$ • 3t Facilitate the user to set up market watch screen • And Facilitate to set up his own portfolios ON<.INE Bach U2 3t facilitates the user to take back up of all 5rders C Trade /elated information, for current day only. ON<.INEGTABU.AR S.I*S 3t %elect the Format for conformation slips AAo4$ 5i#do6 This window displays %oftware related version numbers details and copy right information. Mo'$ Ac$i:i$( Sec4ri$ie' Scree# 3t shows most active securities, based on the total traded value during the day Re2or$ Se%ec$io# 5i#do6 3t facilitates to print each copy of report at any time. These /eports are 1 O2e# order re2or$ 7< For details of out standing orders > Order %og re2or$7<For details of orders placed, modifiedCcancelled E Trade Do#e<$oda( re2or$ 7< For details of orders traded " Mar8e$ S$a$i'$ic' re2or$7 < For details of all securities traded 3nformation in a !ay I#$er#e$ Bro8i#g +* A%0 introduced internet trading system from February ?>>> ?* $lient place the order through brokers on order routing system 5A* (5ire%e'' A22%ica$io# *ro$oco% +* A%0.3T ;aunches the from Aovember ?>>> 1

Derivatives (Futures & Options)

?* +st %tep-getting the permission from e#change for <AP @* ?nd step-Approved by the %0B3)%0B3 Approved only for %0B3 registered 6embers* 1B>+ Addre'' chec8 P.?- Address check, is performed in the A0AT system, when the user log on into the A0AT, system C during report down load re'uest. FT* (Fi%e Tra#'fer 2ro$oco% +* A%0 Provide for each member a separate directory )File* to know their trading !ATA, clear !ATA, bill trade /eport. ?* A%0 Provide in Addition a &$ommon( directory also, to know circulars, A$F6 C Bhava $opy information. @* FTP is connected to each member through L%AT, leased line and internet. D* L%AT )F/56 D8+-P6 to ,8@>A6*, 3nternet )?D ours*. Bha:a Co2( Da$a Ba'e Bhava copy data provides summary information about each security, for each day )only last I days bhava $opy file are stored in report directory.* Aote8 - !etails in Bhava copy-open price, high and low prices, closing prices traded value, traded volume and Ao. of transactions. S#a2 Sho$ Da$a Ba'e %nap shot data base provides %nap shot of the limit order book at many time points in a day. I#de& Da$a Ba'e 3nde# !ata Base provides information about stock market inde#es. Trade Da$a Ba'e Trade !ata Base provides a data base of every single traded order, take place in e#change.

1

Derivatives (Futures & Options)

BASKET TRADIN/ SYSTEM +* Taking advantage for easy arbitration between future market and C cash market difference, A%0 introduce basket trading system by off setting positions through off line-order-entry facility. ?* 5rders are created for a selected portfolio to the ratio of their market $apitali"ation from + lake to @> crores. @* Off%i#e<order<e#$r( faci%i$(7 < generate order file in as specified format out side the system C up load the order file in to the system by invoking this facility in Basket trading system. TRADIN/ NET5ORK

1

Derivatives (Futures & Options)

HUB ANTENNA

SATELLITE

NSE MAIN FRAME
BROKER’S PREMISES

Fig4re >B?

*ar$ici2a#$' i# Sec4ri$( Mar8e$

1

Derivatives (Futures & Options)

+* ?* @* D* -*

%tock 0#change )registered in %0B3*->E %tock 0#changes !epositaries (NSD.-CDS. -? !epositaries ;isted %ecurities-C-"1E /egistered Brokers-C-+1C F33s-+,> Highe'$ I#:e'$or *o24%a$io#
State "a#arastra 'u(arat Del#i Ta*ilna!u +est ,an-al .n!#ra /ra!es# Total No. Investors $.11 %a&#s 5.36 %a&#s 3.25 %a&#s 10.10% 2.30 %a&#s 2.14 %a&#s 1.$4 %a&#s ).205 6.)5% 6.05% % o Investors in In!ia 28.50 16.)5

TaA%e >BH I#:e'$or Ed4ca$io# ) 2ro$ec$io# F4#d This fund used to educate C develop the awareness of the 3nvestors. 1

Derivatives (Futures & Options)

The following funds credited to 30 C PF +* 1npaid dividends ?* !ue for refund )application money received for allotment* @* 6atured deposits C debentures with company. D* 7overnment donations.

co02a#(
SHAREKHAN
%%G3, a veteran e'uities solutions company with over 4 decades of e#perience in the 3ndian stock markets. The %%G3 7roup comparies of institutional Broking and $orporate Finance. The institutional broking division caters to domestic and foreign institutional investors, while the $orporate Finance !ivision focuses on ninche areas such as infrastructure, telecom and media, %%G3 has been voted as the Top !omestic Brokerage ouse in the research category, by the 0uro 6oney survey and Asia 6oney survey. %hare khan is also about focus. %harekhan does not claim e#pertise in too many things. %harekhan9s e#oertise lies in stocks and that9s what he talks about with authority.%o when he says that investing in stocks shouldnot be confused with trading in stocks or a portfolio-based strategy is better than betting on a single horse, it is some thing that is spoken with years of focused learning and e#perience in the stock markets. And these beliefs are reflected in everything %harekhan does for youT %hare khan 3ndia9s leading stockbroker is the retail arm of %%G3, An organi"ation with over eighty years e#perience in the stock market. <ith over ?D>share shops in ++>. $ities, and 3ndia9s premier online trading destinations-www.sharekhan.com, ours customer eny multi-channel access at the stock markets, share khan offer u trade e#ecution facilities for cash as well as derivaties on the B%0 CA%0 and most

1

Derivatives (Futures & Options)

importunity we bring you investment advice tempered by eighty years of broking e#perience. Through our portal %harekhan.com, we9ve been providing investors a powerful online trading platform, the latest news, research and other knowledge-based tools for over -years now. <e have dedicated terms for fundamental and technical research so that you get all the information your need to take the right investment decisions. <ith branches and outlets across the country , our ground network is one of the biggest in 3ndia. <e have a talent pool of e#perienced professionals specially designated to guide you when you need assistance, which is why investing with us is bound to be a hassle-free e#perience for youT Rea'o# 6h( (o4 'ho4%d choo'e Share Kha# 1B E&2erie#ce7 %%G3 has more than eight decades of trust and credibility in the 3ndian stock market. 3n the Asia 6oney Broker9s poll held recently, %%G3 won the R3ndia9s best broking division in February ?>>>, it has been providing institutional-level research and broking services to individual investors. >BTech#o%og(7 <ith our online trading account you can buy and sell shares in an instant from any P$ with an 3nternet connection. Bou will get acces to our powerful inline trading tools that will help you take complete control over your investment in shares. EBAcce''iAi%i$(7 3n addition to our online and phone trading services, we also have a ground network of ?D> share shops across ++> cities in 3ndia where you can get personali"ed services. "BK#o6%edge7 3n a business where the right information at the right time can translate into direct profit, you get access to wide range of information on our content- rich portal, %harekhan.com. Bou will also get a useful set of knowledge-based tools that will empower you to take informed decisions. +BCo#:e#ie#ce7 Bou can all our !ial-n-Trade number to get investment and e#ecute your transaction. <e have a dedicated call-center to provide this service via a toll-free number from anywhere in 3ndia.

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Derivatives (Futures & Options)

HBC4'$o0er 'er:ice7 5ur customer service team will assist you for any help that you need relating to transactions, billing, demat and other 'ueries, our customer service can be contacted via a toll-free number, email or live chat on sharekhan.com ?BI#:e'$0e#$ Ad:ice7 %harekhan has dedicated research teams for fundamental and technical research.5ur analysts constantly track the pulse of the market and provide timely investment advice to you in the form of daily research emails, online chat, printed reports on %6% on your phone.$utomers of %hare Ghan 0#perience language, presentation style, content or for that matter the online trading facility find a common thread2 one that helps the customers make informed decisions and simplifies investing in stocks. The common thread of empowerment is what %harekhan9s all aboutT %harekhan is also about focus. %hare khan does not claim e#pertise in too many things. %harekhan9s e#pertise lies in stocks and that9s what he talks about with authority. %o when he says that investing in stocks should not be confused with trading in stocks or a portfolio-based strategy is better than betting on a single horse, it is something that is spoken with years of focused learning and e#perience in the stock markets. And these beliefs are reflected in everything %harekhan does for customers. To sum up, %harekhan brings to customers a user-friendly online trading facility, coupled with a wealth of content that will help customers stalk the right shares. Those of customers who feel comfortable dealing with a human being and would rather visit a brick-and-mortar outlet than talk to a P$2 %harekhan offers customers the facility to visit )or talk to* any of sharekhan9s share shops across the country. 3n fact %harekhan runs 3ndia9s largest chain of share shops with over hundred outlets in 4> citiesT

Share8ha# 'er:ice'7 %harekhan, one of 3ndia9s leading brokerage houses, is the retail arm of %%G3. <ith over -+> share shops in +I> cities, and 3ndia9s premier online trading portal www.sharekhan.com, sharekhan9s customers eny multi-channel access to the stock markets. O#%i#e Ser:ice' $o S4i$ c4'$o0er' Need'7 <ith a %harekhan online trading account, customers can buy and sell shares in an instantT Anytime customers like trading account that suits customer9s trading habits and preferences M the $lassic Account for most investors and %peed trade for active

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Derivatives (Futures & Options)

day traders. $ustomer9s $lassic Account also comes with !ial-n-Trade completely free, which is an e#clusive service for trading shares by using customer9s telephone. <hen beginning customer9s foray in investing in shares, customers need a lot of things M from the right information at customer9s disposal, to assistance when customers need it and advice on investing.%harekhan have been in this business for over 4> years now, and with sharekhan customers get a host of serices and tools that are difficult to fing in one place anywhere else. The %harekhan First %tep program, built specifically for new investors. All customers have to do is walk into any of sharekhan9s -+> share shops across +I> cities in 3ndia to get a host of trading related services M sharekhan9s friendly customer service staff will also help customers with any accounts related 'ueries customers may have. A Share8ha# o4$%e$ offer' $he fo%%o6i#g 'er:ice'7 5nline B%0 and A%0 e#ecution )through B5;T C A0AT terminals*Free access to investment advice from %harekhan value line )a monthly publication with reviews of recommendations, stocks to watch out for etc* !aily research reports and market review) igh Aoon C 0agle 0ye* Pre-market /eport )6orning $uppa* !aily trading calls based on Technical Analysis $ool trading products)!arling !erivatives and 6arket %trategy* Personalised Advice ;ive 6arket 3nformation !epository %ervices8 !emat C /emat Transactions !erivatives Trading )Futures and 5ptions* $ommodities Trading 3P5s C 6utual Funds !istribution 3nterner-based 5nline Trading8 %peed Trade 3nvesting in 6utual Funds though customers will now be able to invest in 6utual Funds through %harekhan2 it has started this service for few mutual funds, and in the near future will be e#panding sharekhan9s scope to include a whole lot more.

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Derivatives (Futures & Options)

Applying for a mutual fund through sharekhan is open to everybody, regardless of whether customers are a %harekhan customer.

ANA.YSIS The 5b:ective of this analysis is to evaluate the profit=loss position futures and options. This analysis is based on sample data taken of NT*C %crip. This analysis considered the 3ANUARY contract of NT*C. The lot %i"e of NT*C is 1H>+, the time period in which this analysis done is from ,1<1<>,,C to 1!<><>,,CB
Date 1-Jan-09 2-Jan-09 5-Jan-09 6-Jan-09 7-Jan-09 9-Jan-09 12-Jan-09 13-Jan-09 14-Jan-09 15-Jan-09 16-Jan-09 19-Jan-09 20-Jan-09 21-Jan-09 22-Jan-09 23-Jan-09 27-Jan-09 28-Jan-09 29-Jan-09 Open 179.4 181.2 182.5 178.9 175.05 168.9 177.5 166.1 164.15 162.25 162 174.25 172.05 178 174.95 172.1 173.85 185.9 189.8 High 181.4 184.2 182.5 179 175.05 174.8 177.5 167 166.3 164.45 175.8 175.5 182.15 181.1 176.5 173.45 186.3 188.8 189.8 Low 178.1 178.55 177.5 172.7 165.55 165.8 165 162 161.85 160 162 172.4 169.3 173.4 171.65 167.45 171.6 183 181.1 Close 180.9 182.85 179.4 174.75 168.85 173.9 166.55 163.15 164.7 160.8 174.45 174.1 180.4 174.95 173.05 170.55 185.25 187.35 184.55 Qty 43441780 43378320 50263850 64962540 49464510 54847000 60508820 1.26E+08 4.37E+08 2.05E+08 3.12E+08 1.46E+08 5.67E+08 1.07E+09 7.17E+08 1.13E+09 2.33E+09 2.06E+09 2.83E+09

1

Derivatives (Futures & Options) 30-Jan-09 2-Feb-09 3-Feb-09 4-Feb-09 5-Feb-09 6-Feb-09 9-Feb-09 10-Feb-09 11-Feb-09 12-Feb-09 13-Feb-09 16-Feb-09 17-Feb-09 18-Feb-09 183 187 179.8 178.1 176.25 176.5 180.1 181.5 178.5 179.15 181.45 182.9 177.25 171.6 188.9 187 181.4 179.8 176.7 181.25 182.9 183.35 182.5 181.75 184.6 182.9 177.25 176.55 182.2 177.5 174.3 173.55 173.25 176.5 177 178.1 177.4 179.15 180.9 176.75 172.75 171.55 188.05 178.05 175.95 175.4 175.8 179.45 182.4 180.2 180.5 180 182.75 177.6 173.4 175.75 2.58E+09 2.38E+09 3.67E+09 2.35E+09 1.52E+09 2.21E+09 2.29E+09 2.61E+09 1.87E+09 1.54E+09 2.12E+09 2.31E+09 2.01E+09 15089750

/RA*H ON *RICE MOVEMENTS OF NT*C FUTURES

Open 200 190 180 170 160 150 140
1/ 1/ 20 09 1/ 8/ 20 09 1/ 15 /2 00 9 1/ 22 /2 00 9 1/ 29 /2 00 9 2/ 5/ 20 09 2/ 12 /2 00 9

Future prices

Open

Date

FUTURE MARKET B1B0/ +-=+=?>>,)buying* +I=?=?>>, )$losing period* Profit
162.25 177.25

%0;;0/ +.?.?+II.?;oss +-.>>

+-.>> 1

Derivatives (Futures & Options)

Profit +- # +.?-J ?D@I-,

;oss +- # +.?- J ?D@I-

Because buyer future price will increase so, profit also increases, seller future price also increase so, and he can get loss. 3ncase seller future will decrease, he can get profit. The closing price of ATP$ at the end of the contract period is +II.?- and this is considered as settlement price. The following table e#plains the market price and premiums of calls. ? The first column e#plains T/A!3A7 !AT0. ? %econd column e#plains the %P5T 6A/G0T P/3$0 in cash segment on that date. ? The fifth column e#plains the F1T1/0 6A/G0T P/3$0 in cash segment on that date.

CA.. *RICES

DA ! 20-Jan-09 21-Jan-09 22-Jan-09 23-Jan-09 24-Jan-09 25-Jan-09 26-Jan-09 27-Jan-09 28-Jan-09 29-Jan-09 30-Jan-09 31-Jan-09 1-Feb-09 2-Feb-09 3-Feb-09 4-Feb-09 5-Feb-09 6-Feb-09 7-Feb-09 8-Feb-09 9-Feb-09 10-Feb-09 11-Feb-09

PRICES "#O #$%C! 176.1 182.7 182 178

PRIMIU M F& &$! #$%C! 185.95 179.95 178.55 179.85 1'( 45 * * * * * * * * * 49 * * * * 43 * * * * * * * * * * * * * * * * * * * * * * * * 35 * * 34.75 * * 29 22 22.5 18.85 * * * 23 * * * * 12.5 15.5 15 * 28.9 * * 19.05 16 14 11 12 15( * * 17.95 * * * 24 28 * * * 13.25 22.8 20 18.25 16( 21.45 17( 11 15.55 12 12 175 13.75 * * * * * * * * * * * * * * * 7.2 9.6 * * * * 7.05

180.55 190.1 189.9 187.4

190.1 191.25 190.25 189.65

188.5 182 177 177 180

181.2 176.9 176.85 176.85 180.35

182 183.9 178.1

182.95 180.3 180.45

1

Derivatives (Futures & Options) 12-Feb-09 13-Feb-09 14-Feb-09 15-Feb-09 16-Feb-09 17-Feb-09 18-Feb-09 179 180.7 179.85 182.95 * * * * * 26 0 * * * * * * * * * * * 27 12.65 14.5 * * 9.7 9 6.5 * * * * 7.35 5 2.85

184.5 177.05 172

182.95 180.3 180.45

OBSERVATIONS AND FINDIN/S CA.. O*TION BUYERS *AY OFF7 ? ? As brought + lot of ATP$ that is +.?-, those who buy for +I>, paid ,.I premiums per share. %ettlement price is +4D.-> %pot price +4D.->

%trike price +I>.>> Amount +D.-> Premium paid )-* >,.I> Aet Profit >D.4> # +.?-J I4>> Buyer Profit J /s. I4>>)Aet Amount* Because it is positive it is i# $he 0o#e( contract, hence buyer will get more profit, incase spot price increase buyer profit also increase. SE..ERS *AY OFF7

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Derivatives (Futures & Options)

?

3t is i# $he 0o#e( for the buyer, so it is in o4$ of $he 0o#e( for seller2 hence his loss is also increasing. %trike price +I>.>> %pot price +4D.-> Amount -+D.-> Premium /eceived >,.I> ;oss - >D.4> # +.?- J -I4>> %eller ;oss J /s. -I4>>);oss*

Because it is negative it is o4$ of $he 0o#e(, hence seller will get more loss, incase spot price decrease in below strike price, seller get profit in premium level.

*UT *RICES
#$%C!" "#O #$%C! 176.1 182.7 182 178 #$%)%&) F& &$! #$%C! 185.95 179.95 178.55 179.85 1'( 1.45 1.9 1.05 1.55 * * * 180.55 190.1 189.9 187.4 190.1 191.25 190.25 189.65 1.6 1.5 1.2 1.05 * * 188.5 182 177 177 180 181.2 176.9 176.85 176.85 180.35 0.95 1 1.05 1.05 0.7 * * 1.8 1.6 1.35 1.9 1.2 * * 3.15 2 2 1.35 * * 2.55 2.5 3.45 3.3 2.1 * * 15( 3.45 3.45 3.85 4 * * * 4.35 3.15 2.8 3.1 * * 3.55 4.8 4.95 5.4 3.6 16( * 4.8 5 6.9 * * * 7.5 4.25 4.3 4.7 17( 10 7.5 9.55 9.5

DA ! 20-Jan-09 21-Jan-09 22-Jan-09 23-Jan-09 24-Jan-09 25-Jan-09 26-Jan-09 27-Jan-09 28-Jan-09 29-Jan-09 30-Jan-09 31-Jan-09 1-Feb-09 2-Feb-09 3-Feb-09 4-Feb-09 5-Feb-09 6-Feb-09 7-Feb-09 8-Feb-09

1

Derivatives (Futures & Options) 9-Feb-09 10-Feb-09 11-Feb-09 12-Feb-09 13-Feb-09 14-Feb-09 15-Feb-09 16-Feb-09 17-Feb-09 18-Feb-09 182 183.9 178.1 179 180.7 182.95 180.3 180.45 179.85 182.95 0.45 0.3 0.4 0.3 0.2 * * 184.5 177.05 172 182.95 180.3 180.45 0.25 0.15 0.2 0.25 0.3 0.6 0.8 0.55 0.75 0.5 0.45 * * 0.6 0.7 1.45 1.6 1.2 1.5 1.35 0.8 * * 1.5 2.55 3.25 3.85 2.95 2.75 2.5 2

TaA%e "B?

OBSERVATION AND FINDIN/S *UT O*TION BUYERS *AY OFF7 ? ? Those who have purchase put option at a strike price of +I>, the premium payable is +> 5n the e#piry date the spot market price enclosed at +I? %trike Price %pot Price Aet pay off +I>.>> +I?.>> - >?.>> # +.?- J @?-> JJJJJ Already Premium paid +> %o, it can get loss is @?->

Because it is negative, o4$ of $he Mo#e( contract, ence buyer gets more loss, incase %pot price decrease in below strike price, buyer get profit in premium level. SE..ERS *AY OFF7 1

Derivatives (Futures & Options)

?

As %eller is entitled only for premium so, if he is in profit and also seller has to borne total profit. %pot price +I?.>> %trike price +I>.>> Aet pay off >?.>> # +.?- J @?-> JJJJJJ Already Premium received +> %o, it can get profit is @?->

Because it is positive, i# $he Mo#e( $ontract, ence %eller gets more profit, incase %pot price decrease in below strike price %eller can get loss in premium level. DATA OF NT*C < THE FUTURES AND O*TIONS OF THE 3AN<FEB MONTHS
"#O #$%C! 176.1 182.7 182 178 F& &$! #$%C! 185.95 179.95 178.55 179.85

DA ! 20-Jan-09 21-Jan-09 22-Jan-09 23-Jan-09 24-Jan-09 25-Jan-09 26-Jan-09 27-Jan-09 28-Jan-09 29-Jan-09 30-Jan-09 31-Jan-09 1-Feb-09 2-Feb-09 3-Feb-09 4-Feb-09 5-Feb-09 6-Feb-09 7-Feb-09 8-Feb-09 9-Feb-09 10-Feb-09

180.55 190.1 189.9 187.4

190.1 191.25 190.25 189.65

188.5 182 177 177 180

181.2 176.9 176.85 176.85 180.35

182 183.9

182.95 180.3

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Derivatives (Futures & Options) 11-Feb-09 12-Feb-09 13-Feb-09 14-Feb-09 15-Feb-09 16-Feb-09 17-Feb-09 18-Feb-09 178.1 179 180.7 180.45 179.85 182.95

184.5 177.05 172

182.95 180.3 180.45

*$A#H "HO+%,* #$%C! )O-!)!, " OF "#O A,D F& &$!
Series1 195 190 185 180 175 170 165 160
1/ 20 / 1/ 20 0 22 9 /2 1/ 0 0 24 9 /2 1/ 0 0 26 9 /2 1/ 0 0 28 9 / 1/ 20 0 30 9 /2 0 2/ 09 1/ 20 2/ 0 9 3/ 20 2/ 0 9 5/ 2 2/ 00 9 7/ 20 2/ 0 9 9/ 2 2/ 00 11 9 / 2/ 20 0 13 9 /2 2/ 0 0 15 9 /2 2/ 0 0 17 9 /2 00 9

Series2

prices

CO, $AC DA !"

OBSERVATIONS AND FINDIN/S ? The future price of 5A7$ is moving along with the market price. ? 3f the buy price of the future is less than the settlement price, than the buyer of a future gets profit.

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Derivatives (Futures & Options)

? 3f the selling price of the future is less than the settlement price, than the seller incur losses.

TRADIN/ STRATE/IES INVO.VIN/ O*TIONS
S*READS7 A spread trading strategies are most popular tools2 these are used when there is a grate chance to go up=down these spreads are used. %preads are two types Bullish and Bearish %preads. BU.. S*READS7 5ne of the most popular types spreads is a bull spread. This can be created by buying a call option on a stock with a certain strike price and selling a call option on the same stock with a higher strike price. Both options have the same e#piration date. The strategy is illustrated in figure. The profit from the whole strategy is the sum of the profits given by both long and short call. Because a call price always decreases as the strike price increases, the value of the option sold is always less than the value of the option bought. A bull spread, when created from calls, therefore re'uires an initial investment. F371/0: Profit from bull spread created using call option

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Derivatives (Futures & Options)

G+

G?

%t

3f the stock price does well and is greater than the higher strike price, the payoff is the difference between the two strike prices, or k?-k+. 3f the stock price, on the e#piration date lies between the two strike prices, the payoff is %UT-G+. 3f the stock price on the e#piration dates below the lower strike price, the payoffs "ero. The profit is calculated by subtracting the initial investment from the pay off. %tock price %t V G? G+O %t O G? %tW G+ Pay off from long call option %t-G+ %t-G+ > Payoff from short call option -)%T-G?* > > Total payoff G?-G+ %T-G+ >

A bull spread strategy limits the investors upside as well as down side risk. The strategy can be described by saying that the investor has a call option with strike price e'ual to G+ and has chosen to give up some upside potential by selling a call option with strike price G?)G?NG+*. 3n return for giving upside potential, the investor gets the price of the option with strike priceG?.

1

Derivatives (Futures & Options)

F371/0 8 Profit from bull spread created using put options Profit

G?

k+

%t

B0A/ %P/0A!%8 An investor who enters into a bull spread is hoping that the stock price will increase. By contrast, an investor who enters into a bear spread is hopping that the stock price will decline. Bear spreads can be created by buying a put with one strike price and selling a put with another strike price. The strike price of the option purchased is grater than the strike price of the option sold. ) this is in contrast to a bull spread, where the strike price of the option purchased is always less than the strike price of the option sold.* %tock price Payoff from long put option 1 Payoff from short Total payoff put option

Derivatives (Futures & Options)

%t V G? G+O %t O G? %tW G+

> G? M %t G? - %t

> > - )G+ - %t*

> G? M %t G? M k+

3n figure the profit from the spread is shown by the solid line. A bear spread created from puts involves an initial cash outflow because the piece of the put purchased. 3n essence, the investor has bought a put with certain strike price and chosen to give up some of the profit potential by selling a put with a lower strike price. 3n return for the profit given up, the investor gets the price of the option sold.

F371/08 Profit from bear spread created using put option. Profit

G+

G?

%t

Assume that the strike prices are G+ and G?. Table shows the payoff that will be reali"ed from a bear spread in different circumstances. 3f the stock price is grater than G?, the payoff is "ero. 3f the stock price is less than G+, the payoff is G? M G+. 3f the stock price is between G+ and G?, the payoff is G? M%t. The profit is calculated by subtracting the initial cost from the payoff.

1

Derivatives (Futures & Options)

F371/0: Profit from bear spread created using call option.

Profit

G+

G?

1

Derivatives (Futures & Options)

T0$ A3$A; AAA;B%3% BB 1%3A7 65L3A7 AL0/A70%8
Price Crosses Moving Average:

De'cri2$io# A moving average is an indicator that shows the average value of a securityXs price over a period of time. This type of Technical 0ventY occurs when the price crosses a moving average. Three moving averages are supported8 ?+, -> and ?>> price bars. A price cross of a longer moving average indicates a longer term signal, in that the security may take a longer period of time to move in the anticipated direction. A bullish signal is generated when the securityXs price rises above its moving average and a bearish signal is generated when the securityXs price falls below its moving average. After a crossover is identified, it is considered Znot yet confirmedZ. Then additional confirmation is sought by watching the slope of the moving average. A bullish event is ZconfirmedZ if the moving average turns upward within XPX price bars, where XPX is the period of the moving average. For a bearish event, the moving average must turn downward as confirmation. 3n some cases, the moving average does not slope in the desired direction soon enough after the crossover, in which case the event is considered Znever confirmedZ. 1

Derivatives (Futures & Options)

These events are based on simple moving averages. A simple moving average is one where e'ual weight is given to each price over the calculation period. For e#ample, a ?+-day simple moving average is calculated by taking the sum of the last ?+ days of a stockXs close price and then dividing by ?+. 5ther types of moving averages, which are not supported here, are weighted averages and e#ponentially smoothed averages.

Tradi#g Co#'idera$io#' 6oving averages are lagging indicators because they use historical information. 1sing them as indicators will not get you in at the bottom and out at the top but will get you in and out somewhere in between. They work best in trending price patterns, where an uptrend or downtrend is firmly in place. 3n trending markets, moving averages can provide a very simple and effective method of identifying trends. 1

Derivatives (Futures & Options)

6oving averages also act as support areas. Bou will often see a stock in an uptrend rise well above its ?+ day moving average, return to it and then rise again. 6oving averages also act as resistance areas. <hen a stock trades under a moving average, that average will serve as a resistance price and it will be difficult for the stock to move above it. This is often very true when a stock has fallen below its ?>> day moving average.

Do4A%e Mo:i#g A:erage Cro''o:er7 De'cri2$io# A moving average is an indicator that shows the average value of a securityXs price over a period of time. This type of Technical 0ventY occurs when a shorter and longer moving average cross each other. The supported crossovers are ?+ crossing -> )a short term signal* and -> crossing ?>> )a long term signal*. A bullish signal is generated when the shorter moving average crosses above the longer moving average. A bearish signal is generated when the shorter moving average crosses below the longer moving average. These events are based on simple moving averages. A simple moving average is one where e'ual weight is given to each price over the calculation period. For e#ample, a ?+-day simple moving average is calculated by taking the sum of the last ?+ days of a stockXs close price and then dividing by ?+. 5ther types of moving averages, which are not supported here, are weighted averages and e#ponentially smoothed averages.

1

Derivatives (Futures & Options)

Tradi#g Co#'idera$io#' 6oving averages are lagging indicators because they use historical information. 1sing them as indicators will not get you in at the bottom and out at the top but will get you in and out somewhere in between. They work best in trending price patterns, where an uptrend or downtrend is firmly in place. 1sing a crossover moving average as an indicator is considered to be superior to the simple moving average because there are two smoothed series of prices which reduces the number of false signals.

EDU COM*UTERS8 0!1 computers is an 3T industries script with the lot si"e of I1

Derivatives (Futures & Options)

The future prices at %0;; and B1;; %ignals8

CASE18 The price at sell signal ?DD> The price at buy signal +..@ Profit J selling price M buying price J ?DD> M +..@ JIII Aow, the total profit J ;ot si"e S Profit
J I- S III

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Derivatives (Futures & Options)

TOTA. *ROFITI+!>?+

CASE>7 The price at sell signal +..The price at buy signal +..@ Profit J selling price M buying price J +..--+..@ J? Aow, the total profit J ;ot si"e S Profit
J I- S ? TOTA. *ROFITI1+,

CASEE The price at sell signal +..The price at buy signal +@ID Profit J selling price M buying price J +..- - +@ID J?,+ Aow, the total profit J ;ot si"e S Profit
J I- S ?,+ TOTA. *ROFITI>1!>+

1

Derivatives (Futures & Options)

CASE" The price at sell signal +,DThe price at buy signal +@ID Profit J selling price M buying price J +,D- - +@ID J-I+ Aow, the total profit J ;ot si"e S Profit
J I- S -I+ TOTA. *ROFITI">!>+

1

Derivatives (Futures & Options)

The future prices at %0;; and B1;; %ignals8 CASE18 The price at sell signal ?+4D The price at buy signal +D,, Profit J selling price M buying price J ?+4D - +D,, J.4Aow, the total profit J ;ot si"e S Profit
J I- S .4TOTA. *ROFITI+1E?+

1

Derivatives (Futures & Options)

CASE>7 The price at sell signal +I,The price at buy signal +D,, Profit J selling price M buying price J +I,- - +D,, J?,. Aow, the total profit J ;ot si"e S Profit
J I- S ?,. TOTA. *ROFITI>>>,,

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Derivatives (Futures & Options)

CONC.USIONS ? !erivatives market is an innovation to cash market. Appro#imately its daily turnover reaches to the e'ual stage of cash market. The average daily turnover of the A%0 derivative segments ? 3n cash market the profit=loss of the investor depend the market price of the underlying asset. The investor may incur ugh profit ts or he may incur ugh loss. But in derivatives segment the investor enys ugh profits with limited downside. ? 3n cash market the investor has to pay the total money, but in derivatives the investor has to pay premiums or margins, which are some percentage of total money. ? !erivatives are mostly used for hedging purpose. ? 3n derivative segment the profit=loss of the option writer is purely depend on the fluctuations of the underlying asset.

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Derivatives (Futures & Options)

SU//ESTIONS ? 3n bullish market the call option writer incurs more losses so the investor is suggested to go for a call option to hold, where as the put option holder suffers in a bullish market, so he is suggested to write a put option. ? 3n bearish market the call option holder will incur more losses so the investor is suggested to go for a call option to write, where as the put option writer will get more losses, so he is suggested to hold a put option. ? 3n the above analysis the market price of 5A7$ is having low volatility, so the call option writer enys more profits to holders. ? The derivative market is newly started in 3ndia and it is not known by every investor, so %0B3 has to take steps to create awareness among the investors about the derivative segment. ? 3n order to increase the derivatives market in 3ndia, %0B3 should revise some of their regulations like contract si"e, participation of F33 in the derivatives market. ? $ontract si"e should be minimi"ed because small investors cannot afford this much of huge premiums. ? %0B3 has to take further steps in the risk management mechanism. ? %0B3 has to take measures to use effectively the derivatives segment as a tool of hedging.

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Derivatives (Futures & Options)

BIB.IO/RA*HY ? BOOKS 7< ? !erivatives !ealers 6odule <ork Book - A$F6 ? Financial 6arket and %ervices - 75/!AA C AAT/AKAA ? Financial 6anagement - P/A%AAAA $ AA!/A ? NE5S *A*ERS 7< ? 0conomic times ? Times of 3ndia ? Business %tandard ? MA/AOINES 7< ? Business Today ? Business world ? Business 3ndia ? 5EBSITES 7< ? www.derivativesindia.com ? www.indianinfoline.com ? www.nseindia.com ? www.bseindia.com ? www.sebi.gov.in ? www.google.com)!erivatives market*

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Derivatives (Futures & Options)

MARKET 5ATCH 5INDO5S B.UE CO.OUR 3A!3$AT0 % A/0 LA;10 3A$/0A%0 RED CO.OUR 3A!3$AT0 % A/0 LA;10 !0$/0A%0

NSE SCRI*DS

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NSE ) BSE SCRI*DS

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BUY ORDER FORM

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SE.. ORDER FORM

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MARKET DE*TH

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TRADE BOOK

Fig4re ?BH

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C.IENT MAR/IN

Fig4re ?B?

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ORDER BOOK

Fig4re ?B!

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C.IENT ACTIVITY RE*ORT

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MESSA/E RE*ORT

Fig4re ?B1,

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E1ERCISE RE*ORT

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TRADIN/ SCRI*DS IN DIA.O/UE BO1

Fig4re ?B1>

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Derivatives (Futures & Options)

.IST OF ABBREVIATIONS BSE NSE ISE ABC BMC NSD. CDS. CM CoB DCA DEA D* D*/ D= D:* FI FII F)O FT* IOC I*F Bombay %tock 0#change Aational %tock 0#change 3nter-connected %tock 0#change Additional Base $apital Base 6inimum $apital Aational %ecurities !epository ;td. $entral !epositories %ervices ;td. $apital 6arket $ompany !epartment of $ompany Affairs !epartment of 0conomic Affairs !epository Participant !ominant Promoter 7roup !isclosed Huantity !elivery versus Payment Financial 3nstitution Foreign 3nstitutional 3nvestors Futures and 5ptions File Transfer Protocol 3mmediate or $ancel 3nvestor Protection Fund 1

Derivatives (Futures & Options)

ISIN .T* MB* MTM NSCC. OTC NEAT NCFM RBI RDM SAT SBTS SC(R A SC(R R SEBI S/F SRO TJ> TM UTI VaR VSAT 5DM

3nternational %ecurities 3dentification Aumber ;ast Trade Price 6arket by Price 6ark to 6arket Aational %ecurities $learing $orporation ;imited 5ver the $ounter Aational 0#change for Automated Trading A%0Xs $ertification in Financial 6arkets /eserve Bank of 3ndia /etail !ebt 6arket %ecurities Appellate Tribunal %creen Based Trading %ystem %ecurities $ontracts )/egulation* Act, +,-. %ecurities $ontracts )/egulation* /ules, +,-I %ecurities and 0#change Board of 3ndia %ettlement 7uarantee Fund %elf /egulatory 5rgani"ation %econd day from the trading day Trading 6ember 1nit Trust of 3ndia Lalue at /isk Lery %mall Aperture Terminal <holesale !ebt 6arket

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