Meaning of Options Trading:
The Options contract is a contract that the seller will bestow a right upon the buyer to buy or sell a particular asset within a specified period of time at a particular time. The seller gives this option to the buyer in exchange of premium that is collected from the buyer. The call option of the contract gives the buyer the right to buy while the put option gives the right to sell the contract.
The call option in the option contract bestows the right on the holder of the contract to buy a specified asset at a specified date and at a specified amount. It does not involve any kind of obligation on the holder.
The put option gives the right to sell the asset on the holder at a specified amount within a specified period.
It’s the price that is paid by the buyer to the seller for getting the contract.
It’s also known as exercise date or maturity date or strike date. This is the date referred to in the contract.
The contract contains a specific price that is called as the strike price or exercise price.
The option contract that could be exercised up to the expiration date is called as American options.
These refer to the options that can be implemented only on the expiration date.
In the money option:
If the current index price is higher than the strike price i.e. to say if the spot price is greater than the strike price then it’s said to be in the money option. This actually leads to a cash flow that is positive and can be benefitted only if it’s exercised instantly. When the index price is very much above the strike price then it’s called deep in the money option.
At the money option:
This is a stage when there is no cash flow at all. When the index price is exactly equal to the strike price its termed as at the money option.
Out of the money option:
When the index price is less than the strike price then it’s called out of the money option. This generates negative cash flow. When the difference between the index price and the strike price is greater than its termed as deep out of the money option.
The intrinsic value depends on the time period as well as the in the money or on the money category. In case of call option the intrinsic value will be greater than 0 that is (Index Price – Strike Price) during the in the money option and exactly zero in case of on the money option. The intrinsic value for a put option would be o or greater than o that is (Strike price – Index Price) in the in the money option.
This is the difference between the premium that is the purchase price and the intrinsic value. Time value is considered in both the put option as well as the call option.
Strategies used in Option trading in NSE:
One of the basic strategies that could prove profitable for a person who is very familiar with stock trading. This involves aggressive buying strategy and creates a bullish market. The trader keeps buying option with the positive expectation of the further rise on the price of the underlying stock. The risk under this strategy is limited to the premium price which is the price prevailing in the market. However the benefits could be manifold if the expectations prove to be right.
This is the strategy used by the investor when he expects a dip in the prices of the underlying stocks of the call options. In such case he becomes bearish and starts selling the call options and keeps his position safe from heavy losses. However the profit margin under this is very low and the risk of losing higher amount could be more.
Synthetic Long Call option
Here both the call and put option will be exercised by the investor. Using the call option the stock will be purchased and at the same time may not be quite sure if the prices would go up to not. So to protect against the potential risks the investor will buy a put on the stock as well.