Shri Salman Khurshid
Union Minister of State (I/C) for Corporate Affairs

1. What are derivative instruments?

A derivative is an instrument whose value is derived from the value of one or more underlying, which can be commodities, precious metals, currency, bonds, stocks, stocks indices, etc. Four most common examples of derivative instruments are Forwards, Futures, Options and Swaps.

 
2. What are Forward contracts?

A forward contract is a customized contract between two parties, where settlement takes place on a specific date in future at a price agreed today. The main features of forward contracts are

• They are bilateral contracts and hence exposed to counter-party risk.
• Each contract is custom designed, and hence is unique in terms of contract size, expiration date and the asset type and quality.
• The contract price is generally not available in public domain.
• The contract has to be settled by delivery of the asset on expiration date.
• In case, the party wishes to reverse the contract, it has to compulsorily go to the same counter party, which being in a monopoly situation can command the price it wants.

3. What are Futures ?

Futures are exchange-traded contracts to sell or buy financial instruments or physical commodities for Future delivery at an agreed price. There is an agreement to buy or sell a specified quantity of financial instrument/ commodity in a designated Future month at a price agreed upon by the buyer and seller. To make trading possible, the exchange specifies certain standardized features of the contract.  
 

4. What is the difference between Forward contracts and Futures contracts ?

1. What is the underlying for INDEX futures ?

The underlying for the INDEX futures is the corresponding BSE Index. For e.g. the underlying for SENSEX futures is BSE Sensitive Index of 30 scrips, popularly called the SENSEX.  
 

2. What is the contract multiplier ?

The contract multiplier is the minimum number of the underlying - index or stock that a participant has to trade while taking a position in the Derivatives Segment.As of May 2008, the contract multiplier for SENSEX is 15. This means that the Rupee notional value of a sensex futures contract would be 15 times the contracted value. The following table gives a few examples of this notional value.

It may be mentioned here that the market lot may be changed by the Exchange in consultation with the NSE as per the SEBI guidelines on the same.  
 

3. What is the ticker symbol and trading hours ?

The ticker symbol is the selected alphabets of the underlying for e.g. the ticker for BSE Sensex is BSX while that for the Sensex 'mini' contract is MSX, for Reliance Industries Ltd., it is RIL, etc.

The trading timings for the Derivatives Segment of BSE are the same as that in the Equity Segment - from 9:55 a.m. to 3:30 p.m. (except in cases of Sun Outage when the timings are extended on account of a halt in trading during the day). Trading session's timings can be viewed at the Calendars Section.  
 

4. What is the maturity of the futures contract ?

Presently, SEBI has permitted Exchanges to offer futures products of 1 month, 2 months and 3 months maturity only on a rolling basis- e.g. say for May, June and July months. When the May contract expires there will be a fresh contract month available for trading viz. the August contract. These months are called the Near Month, Middle Month and Far Month respectively.
On 9th June 2000, when Equity Derivatives were first introduced in India at the Bombay Stock Exchange, we started with the three monthly series for June, July and August 2000.
 

5. What is the tick size ?

This means that the minimum price fluctuation in the value of a contract the tick size is presently "0.05" or 5 paisa. In Rupee terms, this translates to a minimum price fluctuation of Rs. 0.75 for a single transaction of SENSEX Futures Contract (Tick size X Contract Multiplier = 0.05 X Rs. 15).
 

6. How is the final settlement price determined ?

The closing value of underlying Index of the cash market is taken as the final settlement price of the futures contract on the last trading day of the contract for settlement purposes.
 

7. What is margin money ?

The aim of collecting margin money from the client / broker is to minimize the risk of settlement default by either counterparty. The payment of margin ensures that the risk is limited to the previous day's price movement on each outstanding position. However, even this exposure is offset by the initial margin holdings.
Margin money is like a security deposit or insurance against a possible Future loss of value. Once the transaction is successfully settled, the margin money held by the exchange is released / adjusted against the settlement liability.
 

8. Are there different types of Margin ?

Yes, there are different types of margin like Initial Margin, Variation margin(commonly called Mark to market or M -T- M) Exposure Margin and Additional Margin, if any.
 

9. What is the objective of Initial margin ?

The basic aim of Initial margin is to cover the largest potential loss in one day. Both buyer and seller have to deposit margins. The initial margin is deposited before the opening of the position in the futures transaction. This margin is calculated by SPAN by considering the worst case scenario.
 

10. What is Variation or Mark-to-Market Margin ?

Variation or mark to market Margin is the daily profit or loss obtained by marking the member's outstanding position to the market (closing price of the day) and receiving or paying the difference from / to him in cash on the succeeding working day.
 

11. What are long / short positions ?

In simple terms, long and short positions indicate whether you have a buy position (long) or sell position (short).
 

12. Is there a theoretical way of pricing Index Future ?

The theoretical way of pricing any Future is to factor in the current price and holding costs or cost of carry. A Futures contract is normally by its very definition for a specified period of time, at the end of which it is settled. In order to compensate the seller for waiting till expiry for realizing the sale proceeds the buyer has to pay some interest which is reflected in the form of cost of carry.

In general, the Futures Price = Spot Price + Cost of Carry.

Theoretically, the Cost of carry is the sum of all costs incurred if a similar position is taken in cash market and carried to maturity of the futures contract less any revenue which may result in this period. The costs typically include interest in case of financial futures (also insurance and storage costs in case of commodity futures). The revenue may be dividends in case of index futures.

Apart from the theoretical value, the actual value may vary depending on demand and supply of the underlying at present and expectations about the future. These factors play a much more important role in commodities, especially perishable commodities than in financial futures.

In general, the futures price is greater than the spot price (in case of a bullish sentiment in the market). In special cases, when cost of carry is negative (on account of a bearish view in the market), the futures price may be lower than Spot prices.
 

13. What is the concept of Basis?

The difference between Spot price and Futures price is known as Basis. Although the Spot price and Futures prices generally move in line with each other, the basis is not constant. Generally basis will decrease with time and on expiry, the basis is zero as the Futures price equals Spot price.
 

14. What are the profits and losses in case of a futures position ?

The profits and losses would depend upon the difference between the price at which the position is opened and the price at which it is closed. Let us take some examples.

Example 1
Position : Long - Buy June Sensex Futures @ 15500
Payoff : Profit - if the futures price goes up Loss - if the futures price goes down
Calculation : The profit or loss would be equal to fifteen times the difference in the two rates.

If June Sensex Futures is sold @ 15600 there would be a profit of 100 points which is equal to Rs. 1500 (100 X 15).

However if the June Sensex is sold @ 15450 there would be a loss of 50 points which is equal to Rs. 750 (50 X 15)

Example 2
Position : Short Sell June Sensex Futures @ 15500
Payoff : Profit - if the futures price goes down Loss - if the futures price goes up
Calculation : The profit or loss would be equal to fifteen times the difference in the two rates.

If June Sensex Futures is bought @ 15700 there would be a loss of 200 points which is equal to Rs. 3,000 (200 X 15).

However if the June Sensex Futures is bought @ 15400, there would be a profit of 100 points which is equal to Rs. 15, 00 (100 X 15).
 

15. What happens to the profit or loss due to daily settlement ?

In case the position is not closed the same day, the daily settlement would alter the cash flows depending on the settlement price fixed by the exchange every day. However the net total of all the flows every day would always be equal to the profit or loss calculated above. Profit or loss would only depend upon the opening and closing price of the position, irrespective of how the rates have moved in the intervening days.

Let us take the illustration where a long position is opened at 15550 and closed at 15650 resulting in a profit of 100 points or Rs. 1500

Let us assume that the daily closing settlement prices are as shown.

 
Example 3
Daily Closing Settlement Prices

In all the cases the net result is a profit of 100 points, which is the difference between the closing and opening price, irrespective of the daily settlement price and different MTM flows.
 

16. How does the Initial Margin affect the above profit or loss ?

The initial margin is only a security provided by the client through the clearing member to the exchange. It can be withdrawn in full after the position is closed. Therefore it does not affect the above calculation of profit or loss.

However there would be a funding cost / transaction cost in providing the security. This cost must be added to the total transaction costs to arrive at the true picture. Other items in transaction costs would include brokerage, stamp duty etc.
 

17. What is a spread position ?

A calendar spread is created by taking simultaneously two positions

1. A long position in a futures series expiring in any calendar month
2. A short position in the same futures as 1 above but for a series expiring in any month other than the 1 above.

Examples of Calendar Spreads

1. Long June Sensex Futures Short July Sensex Futures
2. Short July Sensex Futures Long August Sensex Futures

A spread position must be closed by reversing both the legs simultaneously. The reversal of 1 above would be a sale of June Sensex Futures while simultaneously buying the July Sensex Futures.

1. What are Stock Futures ?

Stock Futures are financial contracts where the underlying asset is an individual stock. Stock Future contract is an agreement to buy or sell a specified quantity of underlying equity share for a future date at a price agreed upon between the buyer and seller. The contracts have standardized specifications like market lot, expiry day, and unit of price quotation, tick size and method of settlement.
 

2. How Stock Futures are priced ?

The theoretical price of a future contract is sum of the current spot price and cost of carry. However, the actual price of futures contract very much depends upon the demand and supply of the underlying stock. Generally, the futures prices are higher than the spot prices of the underlying stocks.

Futures Price = Spot Price + Cost of Carry

Cost of carry is the interest cost of a similar position in cash market and carried to maturity of the futures contract less any dividend expected till the expiry of the contract.

Example:

Spot Price of Stock "A" = 3000, Interest Rate = 12% p.a.
Futures Price of 1 month contract = 3000 + 3000*0.12*30/365
= 3000 + 30
= 3030
 

3. How are Stock Futures different from Stock Options ?

In stock options, the option buyer has the right and not the obligation, to buy or sell the underlying share. In case of stock futures, both the buyer and seller are obliged to buy/sell the underlying share.

Risk-return profile is symmetric in case of single stock futures whereas in case of stock options payoff is asymmetric.

Also, the price of stock futures is affected mainly by the prices of the underlying stock whereas in case of stock options, volatility of the underlying stock affect the price along with the prices of the underlying stock.
 

4 What are the opportunities offered by Stock Futures ?

Stock futures offer a variety of usage to the investors. Some of the key usages are mentioned below:

Investors can take long term view on the underlying stock using stock futures.

Stock futures offer high leverage. This means that one can take large position with less capital. For example, paying 20% initial margin one can take positionfor 100 i.e. 5 times the cash outflow.

Futures may look overpriced or under priced compared to the spot and can offer opportunities to arbitrage or earn risk-less profit. Single stock futures offer arbitrage opportunity between stock futures and the underlying cash market. It also provides arbitrage opportunity between synthetic futures (created through options) and single stock futures.

When used efficiently, single-stock futures can be an effective risk management tool. For instance, an investor with position in cash segment can minimize either market risk or price risk of the underlying stock by taking reverse position in an appropriate futures contract.
 

5 How are Stock Futures settled ?

Presently, Stock futures are settled in cash. The final settlement price is the closing price of the underlying stock.
 

6. Can I square up my position ?

The investor can square up his position at any time till the expiry. The investor can first buy and then sell stock futures to square up or can first sell and thenbuy stock futures to square up his position. E.g. a long (buy) position in December ACC futures, can be squared up by selling December ACC futures.
 

7. When I am required to pay initial margin to my broker ?

The initial margin needs to be paid to the broker on an up-front basis before taking the position.
 

8. Do I have to pay mark to market margin ?

Yes. The outstanding positions in stock futures are marked to market daily. The closing price of the respective futures contract is considered for marking to market. The notional loss / profit arising out of mark to market is paid / received on T+1 basis.
 

9. What are the profits and losses in case of a stock futures position ?

The profits and losses would depend upon the difference between the price at which the position is opened and the price at which it is closed.Let an investor have a long position of one November Stock "A" Futures @ 430. If the investor square up his position by selling November Stock "A" futures @ 450, the profit would be Rs. 20 per share. In case, the investor squares up his position by selling November Stock "A" futures @ 400, the loss would be Rs. 30 per share.  
 

10. What is the market lot for stock futures ?

For market lot ands other details of the various stock futures available on the exchange, please visit the F&O List Section
 

11. Why are the market lots different for different stocks ?

According to L C Gupta Committee Report on Derivatives, at the time of introduction of Derivatives Contracts on any underlying the value of the contract should be at least Rs. 2 lakhs. This value of Rs. 2 lakhs is divided by the market price of the individual stock to arrive at the initial 'market lot' for it. It may be mentioned here that the only exception to this rule is the 'mini' contract on the Sensex (both futures and Options).

The market lots are reviewed twice a year and changes are made as per SEBI guidelines to re-align the market lots in cases where the value has increased / decreased drastically from the value at the time of introduction / previous review.
 

12. What are the different contract months available for trading ?

1, 2 and 3 months contracts are presently available for trading. However, in case of Sensex Options, SEBI has allowed the introduction of Long Dated Options or options with maturities of up to 3 years.
 

13 What is spread trading on BSE ?

One can trade in spread contracts on the Derivative Segment of BSE. Spreads are the contracts for differential price. This means that in case you want to buy a December contract and sell November contract,you can enter an order for Buy Nov Dec stating the difference you want to pay. This would mean that you are buying a December Contract & selling a November contract.

Similarly, you can enter an order for Sell Nov Dec stating the difference you want to receive. This would mean that you are selling a December Contract & buying a November Contract and receiving the difference.
 

14. As an investor, how do I start trading in Stock Futures ?

You need to first register yourself as a client with a Registered Broker by fulfilling all the KYC or Know Your Client rules. Then, sign up the client agreement form and risk disclosure document provided to you by your broker.

Deposit upfront the initial margin

Now start trading!!
 

15. What securities can I submit to the broker as collateral ?

You can pay initial margin in non-cash (bank guarantee, securities) form also. This is an arrangement between you and your broker, as to which securities he/she is willing to accept. However, the mark-to-market loss incurred on a daily basis has to be settled in cash, only.
 

16. How does an investor who has the underlying stock, use stock futures when he anticipates a short-term fall in stock price ?

The holder of the physical stock can sell a future to avoid making a loss without having to sell the share. Any loss caused by the fall in the price of the stockis offset by gains made on the stock future position.
 

17. How can an investor benefit from a predicted rise or predicted fall in the price of a stock ?

An investor can benefit from a predicted rise in the price of a stock by buying futures. As the price of the futures rises, the investor will make a positive return. As the investor will have to pay only the margin (which forms a fraction of the notional value of contract), his return on investment will be higher than on an equivalent purchase of shares.

An investor can benefit from a predicted fall in the price of stock by selling futures. As the price of the future falls in line with the underlying stock, the investor will make a positive return.
 

18. What is pair trading ?

This trading strategy involves taking a position on the relative performance of two stocks. It is achieved by buying futures on the stock expected to perform well and selling futures on the stock anticipated to perform poorly. The overall gain or loss depends on the relative performance of the two stocks.

Similarly it is possible to take a position in the relative performance of a stock versus a market index. For example traders who would like to take only company specific risk could buy/sell the relative index future.

1. Important Terminology in Options ?

Option Premium : Premium is the price paid by the buyer to the seller to acquire the right to buy or sell.

Strike Price or Exercise Price : The strike or exercise price of an option is the specified/ predetermined price of the underlying asset at which the same can be bought or sold if the option buyer exercises his right to buy/ sell on or before the expiration day.

Expiration date : The date on which the option expires is known as Expiration Date. On Expiration date, either the option is exercised or it expires worthless.

Exercise Date : The date on which the option is actually exercised is called as Exercise Date.

In case of European Options the exercise date is same as the expiration date while in case of American Options, the options contract may be exercised any day between the purchase of the contract and its expiration date (see European/ American Option). In India , options on "Sensex" are European style, whereas options on individual are stocks American style.

Open Interest : The total number of options contracts outstanding in the market at any given point of time.

Option Holder : is the one who buys an option, which can be a call, or a put option. He enjoys the right to buy or sell the underlying asset at a specified price on or before specified time.

His upside potential is unlimited while losses are limited to the Premium paid by him to the option writer.

Option seller/ writer : is the one who is obligated to buy (in case of Put option) or to sell (in case of call option), the underlying asset in case the buyer of the option decides to exercise his option. His profits are limited to the premium received from the buyer while his downside is unlimited.

Option Series: An option series consists of all the options of a given class with the same expiration date and strike price. e.g. BSXCMAY15500 is an options series which includes all Sensex Call options that are traded with Strike Price of 15500 & Expiry in May. (BSX Stands for BSE Sensex (underlying index), C is for Call Option, May is expiry date & strike Price is 15500).
 

2. What is Assignment ?

When holder of an option exercises his right to buy/ sell, a randomly selected (by computer) option seller is assigned the obligation to honor the underlying contract, and this process is termed as Assignment.
 

3. What is European & American Style of options ?

An American style option is the one which can be exercised by the buyer at any time, till the expiration date, i.e. anytime between the day of purchase of the option and the day of its expiry. The European kind of option is the one which can be exercised by the buyer only on the expiration day and & not any time before that.
 

4. What are Call Options ?

A call option gives the holder (buyer/ one who is long call), the right to buy specified quantity of the underlying asset at the strike price on or before expiration date in case of American option. The seller (one who is short call) however, has the obligation to sell the underlying asset if the buyer of the call option decides to exercise his option to buy.

Example: An investor buys One European call option on Stock "A" at the strike price of Rs. 3500 at a premium of Rs. 100. If the market price of Stock "A" on the day of expiry is more than Rs. 3500, the option will be exercised. The investor will earn profits once the share price crosses Rs. 3600 (Strike Price + Premium i.e. 3500+100). Suppose stock price is Rs. 3800, the option will be exercised and the investor will buy 1 share of Stock "A" from the seller of the option at Rs 3500 and sell it in the market at Rs 3800 making a profit of Rs. 200 {(Spot price - Strike price) - Premium}.

In another scenario, if at the time of expiry stock price falls below Rs. 3500 say suppose it touches Rs. 3000, the buyer of the call option will choose not to exercise his option. In this case the investor loses the premium (Rs 100), paid which shall be the profit earned by the seller of the call option.
 

5. What are Put Options ?

A Put option gives the holder (buyer/ one who is long Put), the right to sell specified quantity of the underlying asset at the strike price on or before an expiry date in case of American option. The seller of the put option (one who is short Put) however, has the obligation to buy the underlying asset at the strike price if the buyer decides to exercise his option to sell.

Example: An investor buys one European Put option on Stock 'B' at the strike price of Rs. 300, at a premium of Rs. 25. If the market price of Stock 'B', on the day of expiry is less than Rs. 300, the option can be exercised as it is 'in the money'. The investor's Break-even point is Rs. 275 (Strike Price - premium paid) i.e., investor will earn profits if the market falls below 275. Suppose stock price is Rs. 260, the buyer of the Put option immediately buys Stock 'B' from the market @ Rs. 260 & exercises his option selling the Stock 'B' at Rs 300 to the option writer thus making a net profit of Rs. 15 {(Strike price - Spot Price) - Premium paid}.

In another scenario, if at the time of expiry, market price of Stock 'B' is Rs 320; the buyer of the Put option will choose not to exercise his option to sell as he can sell in the market at a higher rate. In this case the investor loses the premium paid (i.e. Rs 25), which shall be the profit earned by the seller of the Put option.  
 

 
6. How are options different from futures ?

The significant differences in Futures and Options are as under:

• Futures are agreements/contracts to buy or sell specified quantity of the underlying assets at a price agreed upon by the buyer & seller, on or before a specified time. Both the buyer and seller are obligated to buy/sell the underlying asset.
• In case of options the buyer enjoys the right & not the obligation, to buy or sell the underlying asset.
• Futures Contracts have symmetric risk profile for both the buyer as well as the seller, whereas options have asymmetric risk profile. In case of Options, for a buyer (or holder of the option), the downside is limited to the premium (option price) he has paid while the profits may be unlimited. For a seller or writer of an option, however, the downside is unlimited while profits are limited to the premium he has received from the buyer.
• The Futures contracts prices are affected mainly by the prices of the underlying asset. The prices of options are however; affected by prices of the underlying asset, time remaining for expiry of the contract, interest rate & volatility of the underlying asset.

7. Explain "In the Money", "At the Money" & "Out of the money" Options ?

An option is said to be "at-the-money", when the option's strike price is equal to the underlying asset price. This is true for both puts and calls.

A call option is said to be "in the money" when the strike price of the option is less than the underlying asset price. For example, a Stock A" call option with strike of 3900 is "in-the-money", when the spot price of Stock "A" is at 4100 as the call option has a positive exercise value. The call option holder has the right to buy the Stock "A" at 3900, no matter by what amount the spot price exceeded the strike price. With the spot price at 4100, selling Stock "A" at this higher price, one can make a profit.

On the other hand, a call option is out-of-the-money when the strike price is greater than the underlying asset price. Using the earlier example of Sensex call option, if the Sensex falls to 3700, the call option no longer has positive exercise value. The call holder will not exercise the option to buy Sensex at 3900 when the current price is at 3700 and allow his "option" right to lapse.
 

 
A put option is in-the-money when the strike price of the option is greater than the spot price of the underlying asset. For example, a Stock "A" put at strike of 4400 is in-the-money when the spot price of Stock "A" is at 4100. When this is the case, the put option has value because the put option holder can sell the Stock "A" at 4400, an amount greater than the current Stock "A" of 4100. Likewise, a put option is out-of-the-money when the strike price is less than the spot price of underlying asset. In the above example, the buyer of Stock "A"put option won't exercise the option when the spot is at 4800. The put no longer has positive exercise value and therefore in this scenario, the put option holder will allow his "option" right to lapse.
 

8. What are Covered & Naked Calls ?

A call option position that is covered by an opposite position in the underlying instrument (for example shares, commodities etc),is called a covered call. Writing covered calls involves writing call options when the shares that might have to be delivered (if option holder exercises his right to buy), are already owned. E.g.A writer writes a call on Reliance and at the same time holds shares of Reliance so that if the call is exercised by the buyer, he can deliver the stock.

Covered calls are far less risky than naked calls (where there is no opposite position in the underlying), since the worst that can happen is that the investor is required to sell shares already owned at below their market value. When a physical delivery uncovered/ naked call is assigned on exercise, the writer will have to purchase the underlying asset to meet his call obligation and his loss will be the excess of the purchase price over the exercise price of the call reduced by the premium received for writing the call.
 

9. What is the Intrinsic Value of an option ?

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

For a call option: Intrinsic Value = Spot Price - Strike Price For a put option: Intrinsic Value = Strike Price - Spot Price The intrinsic value of an option must be a positive number or 0. It can'tbe negative. For a call option, the strike price must be less than the price of the underlying asset for the call to have an intrinsic value greater than 0. For a put option, the strike price must be greater than the underlying asset price for it to have intrinsic value.
 

10. Explain Time Value with reference to Options ?

Time value is the amount option buyers are willing to pay for the possibility that the option may become profitable prior to expiration due to favorable change in the price of the underlying. An option loses its time value as its expiration date nears. At expiration an option is worth only its intrinsic value. Time value cannot be negative.
 

11. What are the factors that affect the value of an option (premium)?

There are two types of factors that affect the value of the option premium:

Quantifiable Factors:

• underlying stock price
• the strike price of the option
• the volatility of the underlying stock
• the time to expiration and
• the risk free interest rate

Non Quantifiable Factors:

• Market participants" varying estimates of the underlying asset's future volatility
• Individuals" varying estimates of future performance of the underlying asset, based on fundamental or technical analysis
• The effect of supply & demand- both in the options marketplace and in the market for the underlying asset
• The "depth" of the market for that option - the number of transactions and the contract's trading volume on any given day.

12. What are different pricing models for options ?

The theoretical option pricing models are used by option traders for calculating the fair value of an option on the basis of the earlier mentioned influencing factors. The two most popular option pricing models are: Black Scholes Model which assumes that percentage change in the price of underlying follows a lognormal distribution. Binomial Model which assumes that percentage change in price of the underlying follows a binomial distribution.
 

13. Who decides on the premium paid on options & how is it calculated ?

Options Premium is not fixed by the Exchange. The fair value/ theoretical price of an option can be known with the help of pricing models & then depending on market conditions the price is determined by competitive bids & offers in the trading environment. An option's premium / price is the sum of Intrinsic value & time value (explained above). If the price of the underlying stock is held constant, the intrinsic value portion of an option premium will remain constant as well. Therefore, any change in the price of the option will be entirely due to a change in the option's time value. The time value component of the option premium can change in response to a change in the volatility of the underlying, the time to expiry, interest rate fluctuations, dividend payments & to the immediate effect of supply & demand for both the underlying & its option
 

14. Explain the Option Greeks ?

The price of an Option depends on certain factors like price and volatility of the underlying, time to expiry etc. The option Greeks are the tools that measure the sensitivity of the option price to the above-mentioned factors. They are often used by professional traders for trading & managing the risk of large positions in options & stocks. These Option Greeks are:

·                                 Delta : is the option Greek that measures the estimated change in option premium/price for a change in the price of the
                                                    underlying.

·                                 Gamma : measures the estimated change in the Delta of an option for a change in the price of the underlying

·                                 Vega : measures the estimated change in the option price for a change in the volatility of the underlying.

·                                 Theta : measures the estimated change in the option price for a change in the time to option expiry.

·                                 Rho : measures the estimated change in the option price for a change in the risk free interest rates.

·                                 Volatility : A measure of stock price fluctuation. Mathematically, volatility is the annualized standard deviation of a stock's
                                                             daily price changes.

·                                 Premium : is the price of an option and is equal to its intrinsic value plus time value.

·                                 Theoretical value : The estimated value of an option derived from a mathematical model.
 

15. What is an Option Calculator ?

An option calculator is a tool to calculate the price of an Option on the basis of various influencing factors like the price of the underlying and its volatility, time to expiry, risk free interest rate etc. It also helps the user to understand how a change in any one of the factors or more, will affect the option price. The option calculator is available at the Option Calculator Section.
 

16. Who are the likely players in the Options Market ?

Developmental institutions, Mutual Funds, Domestic & Foreign Institutional Investors, Brokers, Retail participants are the likely players in the Options Market.
 

17. Why should I invest in Options?What do options offer me ?

Besides offering flexibility to the buyer in the form of right to buy or sell, the major advantage of options is their versatility. They can be as conservative or as speculative as one's investment strategy dictates. Some of the benefits of Options are as under:

• High leverage as by investing small amount of capital (in the form of premium), one can take exposure in the underlying asset of much greater value.
• Pre-known maximum Risk for an option buyer
• Large profit potential & limited risk for Option buyer3
• One can protect his equity portfolio from a decline in the market by way of buying a protective put wherein one buys puts against an existing stock position this option position can supply the insurance needed to overcome the uncertainty of the marketplace. Hence, by paying a relatively small premium (compared to the market value of the stock), an investor knows that no matter how far the stock drops, it can be sold at the strike price of the Put anytime until the Put expires. E.g. An investor holding 1 share of Stock "A" at a market price of Rs 3800 thinks that the stock is over-valued and therefore decides to buy a Put option" at a strike price of Rs. 3800/- by paying a premium of Rs 200/- If the market price of Stock "A" comes down to Rs 3000/, he can still sell it at Rs 3800/- by exercising his put option. Thus by paying a premium of Rs. 200, he insured his position in the underlying stock.

18. How can I use options ?

If you anticipate a certain directional movement in the price of a stock, the right to buy or sell that stock at a predetermined price, for a specific duration of time can offer an attractive investment opportunity. The decision as to what type of option to buy is dependent on whether your outlook for the respective security is positive (bullish) or negative (bearish). If your outlook is positive, buying a call option creates the opportunity to share in the upside potential of a stock without having to risk more than a fraction of its market value (premium paid). Conversely, if you anticipate downward movement, buying a put option will enable you to protect against downside risk without limiting profit potential. Purchasing options offer you the ability to position yourself according to your market expectations in a manner such that you can both profit and protect hedge) with limited risk.
 

19. Once I have bought an option & paid the premium for it, how does it get settled ?

Option is a contract, which has a market value like any other tradable commodity. Once an option is bought there are following alternatives that an option holder has: You can sell an option of the same series as the one you had bought & close out /square off your position in that option at any time on or before its expiration date. You can exercise the option on the expiration day in case of European Option or; on or before the expiration day in case of an American option. In case the option is "Out of Money" at the time of expiry, one will not exercise his option, not being profitable and therefore, it will lapse or expire worthless.
 

20. What are the risks for an Option buyer ?

The risk/ loss of an option buyer is limited to the premium that he has paid.
 

21. What are the risks for an Option writer ?

The risk of an Options Writer is unlimited whereas his gains are limited to the Premiums earned. When an uncovered call is exercised for physical delivery, the call writer will have to purchase the underlying asset and his loss will be the excess of the purchase price over the exercise price of the call reduced by the premium received for writing the call.

The writer of a put option bears a risk of loss if the value of the underlying asset declines below the exercise price. The writer of a put bears the risk of a decline in the price of the underlying asset potentially to zero. When put option holder exercises his option in the falling market,the put writer is bound to purchase the underlying at strike price, even if the underlying is otherwise available in the spot at lower price.
 

22. How can an option writer take care of his risk ?

Option writing is a specialized job, which is suitable only for the knowledgeable investor who understands the risks, has the financial capacity and has sufficient liquid assets to meet applicable margin requirements. The risk of being an option writer may be reduced by the purchase of other options on the same underlying asset and thereby assuming a spread position or by acquiring other types of hedging positions in the options/ futures and other correlated markets.
 

23. Who can write options in Indian Derivatives market ?

In the Indian Derivatives market, SEBI has not created any particular category of options writers. Any market participant can write options. However, the margin requirements are stringent for options writers.
 

24. What are Stock Index Options ?

The Stock Index Options are options where the underlying asset is a Stock Index e.g. Options on "Sensex". Index Options were first introduced by Chicago Board of Options Exchange (CBOE) in 1983 on its Index "S&P 100". As opposed to options on Individual stocks, index options give an investor the right to buy or sell the value of an index which represents group of stocks.
 

25. What are the uses of Index Options ?

Index options enable investors to gain exposure to a broad market, with one trading decision and frequently with one transaction. To obtain the same evel of diversification using individual stocks or individual equity options, numerous decisions and trades would be necessary. Since, broad exposure can be gained with one trade, transaction cost is also reduced by using Index Options. As a percentage of the underlying value, premiums of Index options are usually lower than those of equity options as equity options are more volatile than the Index.
 

26. Who would use index options ?

Index Options are effective enough to appeal to a broad spectrum of users, from conservative investors to more aggressive stock market traders. Individual investors might wish to capitalize on market opinions (bullish, bearish or neutral) by acting on their views of the broad market or one of its many sectors. The more sophisticated market professionals might find the variety of index option contracts excellent tools for enhancing market timing decisions and adjusting asset mixes for asset allocation. To a market professional, managing the risk associated with large equity positions may mean using index options to either reduce their risk or to increase market exposure.
 

27. What are Options on individual stocks ?

Options contracts where the underlying asset is an equity stock, are termed as Options on stocks. They are mostly American style options cash settled or settled by physical delivery. Prices are normally quoted in terms of the premium per share, although each contract is invariably for a larger number of shares, e.g. 100.
 

28. Which are the stocks on which options are available ?

Stocks are selected on the basis of they satisfying various eligibility and selection criteria. The various stocks, available for trading on the Derivatives Segment of the exchange, can be viewed at the List Of Products Section.
 

29. What is the market lot size of different stock option contracts ?

The market lots for the stocks available for trading on the Derivatives Segment of the exchange can be viewed at the Contract Specifications Section.
 

30. How will introduction of options in specific stocks benefit an investor ?

Options can offer an investor the flexibility one needs for countless investment situations. An investor can create hedging position or an entirely speculative one, through various strategies that reflect his tolerance for risk. Investors of equity stock options will enjoy more leverage than their counterparts who invest in the underlying stock market itself in form of greater exposure by paying a small amount as premium. Investors can also use options in specific stocks to hedge their holding positions in the underlying (i.e. long in the stock itself), by buying a Protective Put. Thus they will insure their portfolio of equity stocks by paying premium. ESOPs (Employees" stock options) have become a popular compensation tool with more and more companies offering the same to their employees. ESOPs are subject to lock in periods, which could reduce capital gains in falling markets - Derivatives can help arrest that loss

1. What are Weekly Stock and Index Options ?

Presently, the Stock and Index Options are offered for near, middle and far month contract series. In response to a demand from market participants for shorter maturity options, BSE has decided to offer Weekly Options series (normally Monday to Friday) in addition to the existing Monthly Options series. Initially contracts for 1 week and 2 weeks duration will be launched and thereafter, every week a fresh contract will be launched with a 2 weeks maturity. Hence normally, an investor will have, on any Monday, a choice of either a 1 week Option or 2 weeks Option.

Exchange Traded Options based on a Stock or Index with shorter maturity of One or Two weeks are known as Weekly Options.
 

2. How many Weekly Options will be available for trading ?

One week and Two week Options will be available for the market participants for trading.
 

3. How are Weekly Options different from Monthly Options ?

Weekly Options differ mainly in terms of maturity period. Currently Monthly Options have maturity of 1 month, 2 months or 3 months. As 1 month options expire,another options series get generated. In case of Weekly Options, the maturity will be either 1 week or 2 weeks.

Monthly Options Series will expire on last Thursday of every month. In case of Weekly Options, series will expire on Friday of every week.For Example if the Weekly Options are launched on September 13, 2004, commencement and expiration schedule will be as follows:

In the above table the weekly series which are generated on 1st week i.e. on 04/08/2008 will be expiring on 15/08/2008 and similarly the weekly series will be generated for 2nd, 3rd and 4th week. Thus effectively, on any Monday, say, on 11/08/2008, an investor will have a choice to invest in either a 1 week Option expiring on 15/08/2008 (residual time of the 2 week option opened on 04/08/2008) or the 2 week Option expiring on 22/08/2008, that has been opened on 11/08/2008.

In case of weekly series generated on 3rd week i.e. 18/08/2008 the weekly option will be expiring on 29/08/2008, If the expiry day i.e. 29/08/2008 fall on a trading Holiday, then the expiry previous trading day i.e. 28/08/2008 is the last Thursday of the month (i.e. on the same day, the Monthly series is expiring) then the relevant Weekly series expiring on that day will not be generated.
 

4. What will happen if expiry day is a Trading Holiday ?

If the expiry day of Weekly Options fall on a trading Holiday , then the expiry (as per SEBI guidelines) will be on the previous trading day.

If that previous trading day is the last Thursday of the month (i.e. on the same day, the Monthly series is expiring) then the relevant Weekly series expiring on that day will not be generated.
 

5. What are the Similarities between Monthly and Weekly Options?

The parameters viz. Underlying, Contract Multiplier, Tick size, Price Quotation, Trading Hours, Strike price Intervals of the Weekly Options will remain exactly the same as that of Monthly Options.
 

6. What are the benefits of Weekly Option Contracts?

• Weekly Options will command lower premium due to shorter maturity. Thus the Weekly Options will cost less than the Monthly Options.
• For similar capital outlay as Monthly Options, participants can take larger positions.
• Weekly Options will provide opportunity for Arbitrage between :
  • "One week to maturity"options and "two week to maturity" options.
  • Weekly Options and Monthly Options.
• On account of low cost, the liquidity will improve, as more participants would come in.
• Weekly Options would lead to better price discovery and improvement in market depth.
• The market participants would be able to take a short-term view in the underlying also.
• Weekly Options would provide market participants short term insurance for their short-term portfolio.This would result in better price discovery and improvement in market efficiency.

7. What are the Risk Management measures taken at the Exchange level ?

Since the introduction of Weekly Options is just the addition of new series and not a new product as such, the Risk Containment measures adopted for the Weekly Options would be similar to those applied for Monthly Options.
 

8. Can we compare the premium quoted for Weekly Options with that of Monthly Options ?

The theoretical cost of an at-the-money call option with one month to expiry where the underlying price is Rs. 320 with annual volatility of 50% is Rs.19 and that of an at-the-money call option with 5 days to expiry is Rs.7.50.

1. What are Long dated Options on "SENSEX®"?

BSE has introduced 'Long Dated Options on "SENSEX@ "whereby the members can trade in Sensex (normal lot of 15 only and not 'mini' Sensex) Options contracts with an expiry upto 3 years. These long-term options provide the holder the right to purchase, in the case of a call, or sell, in the case of a put, a specified number of quantity at a pre-determined price up to the expiration date of the option, which can be three years in the future.  
 

2. What are Equity Long dated Options?

Equity Long dated Options are currently not available in BSE however these are long-dated put and call options on stock.  
 

3. When do Long dated Options expire?

As with normal options, the expiration date is the last Thursday of the month if it's a holiday then expiry will be a day before Thursday.  
 

4. What are the trading hours for Long Dated Options?

As with regular equity options, the trading hours for LONG DATED OPTIONS are from 9:55 a.m. to 3:30 p.m. IST.  
 

5. What are the features of Long dated Options?

Longer Tenure

Investor can use long-term calls to diversify their portfolios. Long term put provide investors with means to hedge current stock holdings.

Longer term Options offer a good alternative to a longer-term trader to gain exposure to a prolonged period in a given security without having to roll several short-term contracts.  
 

6. What option series will be available for Long dated Options?

The options series available for the Sensex (normal lot of 15) Options contracts will be as below:

1. The 3 existing serial month contracts (i.e. Near middle and Far month) would continue.
2. The following additional 3 quarterly months of the cycle Mar/Jun/Sep/Dec would be available.
3. Further, 5 additional semi-annual months of the cycle Jun/Dec would be available, so that at any point in time there would be options contract with up to 3 years tenure available.

These series will be available for trading from 29- February -2008.

To illustrate, from the March series onwards i.e. from February 29, 2008 onwards, the users will get to trade the following Futures and Options contracts on the normal Sensex market lot of 15 :

1. Three monthly Futures contracts viz. March, April and May 2008
2. Three monthly Options contracts viz. March, April and May 2008
3. Three quarterly Options contracts viz. June 2008, September 2008, December 2008
4. Five semi-annual Options contracts viz. June 2009, December 2009, June 2010, December 2010 and June 2011

1. What is Chhota(mini) "SENSEX@"?

It is mini Futures & Options contracts on the SENSEX@ in Market Lot of FIVE in addition to the existing contracts available on the SENSEX@ in a larger market lot.  
 

2. What are the benefits of Chhota(mini) "SENSEX"?

The mini contract will offer the following benefits:

• mini futures and options have market lot of FIVE, hence lower capital outlay (for margin) and lower trading costs
• smaller contract value allows for more precise hedging and flexible trading
• more arbitrage opportunities available
• easy access by the retail investor to the SENSEX@ that constitutes 30 leading companies of diverse industries covering 12 broad sectors of the Indian economy thus providing macro view of the economy to investors.

For further information visit http://www.bseindia.com/about/minisenx.asp

What is USD SENSEX@ Future?

The Chicago-based U.S. Futures Exchange (USFE) has joined hands with BSE for the launch of a US Dollar-denominated Sensex futures contract that will trade 23 hours a day from April 4, 2008. USFE's SENSEX contract will allow eligible U.S. investors to directly participate in India 's equity markets for the first time, without requiring American Depository Receipt (ADR) authorization. The contract will have a notional value of around USD 40,000 and a tick size of $ 10. The detailed information on the contract is available at http://www.usfe.com/products-ei-sensex.html

For further information please contact us on -

·                                Ameya Bhagwat - Tel: 22723887 (D); 22721233/34 (Extn: 8419)

·                                Suhel Plasar - Tel: 22721233/34 (Extn: 8436)

·                                Runjhun Lall - Tel: 22721233/34 (Extn: 8844)

·                                Shivam Gupta - Tel: 22721233/34 (Extn: 8346)

Email: derivativesinfo@bseindia.com