Motilal Project

8/14/2019 Motilal Project

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PROJECT REPORT

ON

Use Of Futures & Options In Bearish MarketUse Of Futures & Options In Bearish Market

IN PARTIAL FULFILLMENT OF THE REQUIREMENT FOR THE DEGREE

OF

MASTE R OF BUSI NESS ADMINIST RATION

BY

Mr. Sanjay Goplani

UNDER THE GUIDANCE OF

Mr. Himanshu Tiwari

Datta Meghe Institute Of Management

Studies,

Nagpur


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2009-2010


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CERTIFICATE

This is to certify that Mr Sanjay Goplani is a bonafide student of Datta Meghe

Institute of Management Studies, Nagpur and studying in MBA part II and has

completed his Summer Internship Program at Motilal Securities Pvt. Ltd. And

Submitted Report on topic Use Of Future & Options In Bearish Market under my

complete guidance and supervision.

This project report is submitted to RTM Nagpur University in partial

fulfillment of academic requirement for the Degree of Master of Business

Administration during the academic year 2008-2009.

I find the work comprehensive, complete and of sufficiently high standard to

warrant its presentation.

Guide

Director

Mr. Himanshu Tiwari Dr. Amishi Arora

Date:

Place: Nagpur


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DECLARATION

I Sanjay Choithram Goplani, a student of M.B.A. Part II of DMIMS, Nagpur hereby

declare that , the project entitled

Use Of Futures & Options In Bearish MarketUse Of Futures & Options In Bearish Market or Part there of has not been

previously submitted by me for any other Degree or diploma of any University or

Scientific Organization. The Project is the result of my bonafide work and source of

literature used and all assistance received during the course of investigation have

duly acknowledged.

Date:

Place: Nagpur Mayank pal


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ACKNOWLEDGEMENT

I take this opportunity to convey my gratitude to those who provided me help

during the course of my study.

It is indeed a great pleasure to express my sincere thanks and great sense of

gratitude to Mr. Himanshu Tiwari for his invaluable guidance, timely help and

suggestion and constant encouragement during my project work.

I take opportunity to express sincere thanks to teaching and non teaching staff

of Datta Meghe Institute Of Management Studies, Nagpur.

Also Im thankful to the branch head Mr.Prashant Pimplwar, my mentor Mr. Prashish

Bharne ,and Mr.harish at motilal oswal securities ltd. Nagpur Branch.

Lastly Im thankful to my Parents and Friends for keeping my spirit alive

through the course of my project.

Date:-

Place: - Nagpur sanjay goplani

INTRODUCTION


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Futures and options

Futures and options represent two of the most common form of "Derivatives". Derivatives are

financial instruments that derive their value from an 'underlying'. The underlying can be a stock

issued by a company, a currency, Gold etc., The derivative instrument can be traded

independently of the underlying asset.

The value of the derivative instrument changes according to the changes in the value of the

underlying.

Derivatives are of two types -- exchange traded and over the counter.

Exchange traded derivatives, as the name signifies are traded through organized exchanges

around the world. These instruments can be bought and sold through these exchanges, just like

the stock market. Some of the common exchange traded derivative instruments are futures and

options.

Over the counter (popularly known as OTC) derivatives are not traded through the exchanges.

They are not standardized and have varied features. Some of the popular OTC instruments are

forwards, swaps, swaptions etc.

Futures

A 'Future' is a contract to buy or sell the underlying asset for a specific price at a pre-determined

time. If you buy a futures contract, it means that you promise to pay the price of the asset at a

specified time. If you sell a future, you effectively make a promise to transfer the asset to the

buyer of the future at a specified price at a particular time. Every futures contract has the

following features:

Buyer

Seller

Price

Expiry

Some of the most popular assets on which futures contracts are available are equity

stocks, indices, commodities and currency.


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The difference between the price of the underlying asset in the spot market and thefutures market is called 'Basis'. (As 'spot market' is a market for immediate delivery) Thebasis is usually negative, which means that the price of the asset in the futures market ismore than the price in the spot market. This is because of the interest cost, storage cost,insurance premium etc., That is, if you buy the asset in the spot market, you will be

incurring all these expenses, which are not needed if you buy a futures contract. Thiscondition of basis being negative is called as 'Contango'.

Sometimes it is more profitable to hold the asset in physical form than in the form offutures. For eg: if you hold equity shares in your account you will receive dividends,whereas if you hold equity futures you will not be eligible for any dividend.

When these benefits overshadow the expenses associated with the holding of the asset,the basis becomes positive (i.e., the price of the asset in the spot market is more than inthe futures market). This condition is called 'Backwardation'. Backwardation generallyhappens if the price of the asset is expected to fall.

It is common that, as the futures contract approaches maturity, the futures price and thespot price tend to close in the gap between them ie., the basis slowly becomes zero.

Options

Options contracts are instruments that give the holder of the instrument the right to buyor sell the underlying asset at a predetermined price. An option can be a 'call' option or a'put' option.

A call option gives the buyer, the right to buy the asset at a given price. This 'given price'is called 'strike price'. It should be noted that while the holder of the call option has aright to demand sale of asset from the seller, the seller has only the obligation and not theright. For eg: if the buyer wants to buy the asset, the seller has to sell it. He does nothave a right.

Similarly a 'put' option gives the buyer a right to sell the asset at the 'strike price' to thebuyer. Here the buyer has the right to sell and the seller has the obligation to buy.

So in any options contract, the right to exercise the option is vested with the buyer of thecontract. The seller of the contract has only the obligation and no right. As the seller ofthe contract bears the obligation, he is paid a price called as 'premium'. Therefore theprice that is paid for buying an option contract is called as premium.

RESEARCH METHODOLOGY


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OBJECTIVES

.

To understand the concept and benefits of Hedging.

Hedging principles used in Futures and Options market.

To plan different strategies used in Futures and Options to minimize the losses of clients.

To show that losses can be avoided even if the market is falling.

Methodology of the project starts with:

In the first phase we are trained and they teach us different things about futures and

options market.

After that I have gone through the data related to Futures and Options market to

understand the main problem that people were facing during recession and due to that

were not able to cope up with their losses.

Ive understood that people were in losses because they were looking Futures as an

investment segment but not as a hedging tool and they were not aware of options market.

Then after that we have applied, different hedging strategies on the data of recession

period related to Futures and Options segment that could be used there to minimize the

losses.

The next part knows the pattern of the Index based Futures and Options market. How they move

with the correspondence to the market movement and also the economy.

Get the knowledge of technical as well as fundamental methods.

Observe the patterns of the Futures and Options market used individually and mutually.

LIMITATIONS


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The various Limitations are:--

Lack of awareness about Futures and Options segment: - Since the area is not known

before it takes lot of time in convincing people to start investing in Futures and Options

market for hedging purpose.

Mostly people comfortable with traditional brokers: -- As people are doing trading

from there respective brokers, they are quite comfortable to trade via phone.

Lack of Techno Savvy people and poor internet penetration: -- Since most of the

people are quite experienced and also they are not techno savvy. Also internet penetration

is poor in India.

Some respondents are unwilling to talk: - Some respondents either do not have time or

willing does not respond as they are quite annoyed with the adverse market conditions

they faced so far.

Misleading concepts: - Some people think that Derivatives are too risky and just another

name of gamble but they dont know its not at all that risky for long investors.

Company Profile


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The story of Motilal Oswal Securities Ltd goes back many years, when Mr. Motilal Oswal andMr. Raamdeo Agrawal met each other as students in a Mumbai suburban hostel in the earlyeighties. Both the young chartered accountants hailing from a rural & an unpretentiousbackground had a common dream viz 'to build a professional organization with strong valuesystems, to provide reliable & honest investment advice to investors'. Thus was born their first

enterprise called "Prudential Portfolio Services" in 1987.Motilal Oswal Securities Ltd. was founded in 1987 as a small sub-broking unit, with just twopeople running the show. Focus on customer-first-attitude, ethical and transparent businesspractices, respect for professionalism, research-based value investing and implementation ofcutting-edge technology has enabled us to blossom into an almost 2000 member team.

SUCCESS MANTRA FOR MOSL:

The success story of MOSL is driven by 8 success sutras adopted by it namely:Trust, Integrity, Dedication, Commitment, Enterprise, Hardwork and

Teamplay, Learning and Innovation, Empathy and Humility. These are thevalues that bind success with MOSL.

Mission Statement:

To be a well-respected and preferred global financial services organisationenabling wealth creation for all our customers.Today MOSL is a well diversified financial services firm offering a range of financial productsand services such as


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Wealth Management

Broking & Distribution

Commodity Broking

Portfolio Management Services Institutional Equities

Private Equity

Investment Banking Services and

Principal Strategies

MOSL has a diversified client base that includes retail customers (including High Net worthIndividuals), mutual funds, foreign institutional investors, financial institutions and corporateclients. MOSL are headquartered in Mumbai and as of March 31st, 2009, had a network spreadover548 cities and towns comprising 1,289 Business Locations operated by our BusinessPartners and us. As at March 31st, 2009, we had 541372 registered customers.

In 2006, the Company placed 9.48% of its equity with two leading private equity investors basedout of the US New Vernon Private Equity Limited and Bessemer Venture Partners.

The company got listed on BSE and NSE on September 9, 2007. The issue which was priced atRs.825 per share (face value Rs.5 per share) got overwhelming response and was subscribed27.18 times in turbulent market conditions. The issue gave a return of 21% on the date of listing.

As of end of financial year 2008, the group net worth was Rs.7 bn. and market capitalization asof March 31, 2008 was Rs.19 bn.

For year ended March 2008, the company showed a strong top line growth of 91% to Rs.7 bn. as

compared to Rs.3.68 bn. last year. New businesses like investment banking, asset managementand fund based activities have contributed to this growth.

Credit rating agency Crisil has assigned the highest rating of P1+ to the Companys short-termdebt program.

Shareholding Pattern at on 31st December 08

As of December 31st, 2008; the total shareholding of the Promoter and Promoter Group

stood at 70.37%. The shareholding of institutions stood at 10.07% and non-institutions at19.56%.

Their Business Streams

Our businesses and primary products and services are:

Wealth Management

Financial planning for individual, family and business wealth creation and management needs.These are provided to customers through our Wealth Management service called Purple
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Broking & Distribution services

Equity (cash and derivatives)

Commodity Broking

Portfolio Management Services Distribution of financial products

Financing

Depository Services

IPO distribution

We offer these services through our branches, Business Partner locations, the internet and mobilechannels. We also have strategic tie-ups with State Bank of India and IDBI Bank to offer ouronline trading platform to its customers.

Commodity Broking

Through Motilal Oswal Commodities Broker (P) Ltd our fully owned subsidiary; we providecommodity trading facilities and related products and services on MCX and NCDEX. Besidesaccess to the best of research in the form of Daily Fundamentals & Technical Reports on highlytraded commodities, our clients also get access to our exclusive Customized Trading Advice onboth the trading platforms. We offer these services through our branches, Business Partnerlocations, the internet and mobile channels

Portfolio Management Services

Motilal Oswal Portfolio Management Services offer a range of investments solutions throughdiscretionary services. We at Motilal Oswal have helped create wealth for our customers throughour Portfolio Management Services. Our knowledge of the markets together with ourunderstanding of our customers and their risk profiles has helped us design a range of portfolioofferings for our clients. These include the Value Strategy,Bulls Eye Strategy,Trillion DollarOpportunity Strategy and Focused Strategy Series I. As of March 31st, 2009, the Assets UnderManagement of our various portfolio schemes stood at Rs.4.77 bn.

Motilal Oswal group has applied to the regulatory bodies for a license to operate as a DomesticAsset Management Company (Mutual Fund) and we expect to begin operations soon.

Institutional Equities
http://www.motilaloswal.com/Commodityhttp://www.motilaloswal.com/Retail/RetailContents.aspx?ReportID=4C85DF26-14A8-4DCF-AF90-D9368AAE1F74http://www.motilaloswal.com/Retail/RetailContents.aspx?ArticleID=e424c05f-9d2a-494e-ba04-27c8a2cf6c7dhttp://www.motilaloswal.com/Retail/RetailContents.aspx?ArticleID=e424c05f-9d2a-494e-ba04-27c8a2cf6c7dhttp://www.motilaloswal.com/Retail/RetailContents.aspx?ArticleID=1507a912-dded-4ca7-b987-db9295ae213bhttp://www.motilaloswal.com/Retail/RetailContents.aspx?ArticleID=1507a912-dded-4ca7-b987-db9295ae213bhttp://www.motilaloswal.com/Retail/RetailContents.aspx?ArticleID=0115fbb7-ead7-4679-8e44-56d281869781http://www.motilaloswal.com/Retail/RetailContents.aspx?ArticleID=0115fbb7-ead7-4679-8e44-56d281869781http://www.motilaloswal.com/Retail/RetailContents.aspx?ArticleID=a1e21d74-0b41-48ca-8084-51f0c29fb116http://www.motilaloswal.com/Retail/RetailContents.aspx?ArticleID=a1e21d74-0b41-48ca-8084-51f0c29fb116http://www.motilaloswal.com/Content.aspx?ReportID=0C2B2131-A6CA-444E-A7A3-C641AFEFB554http://www.motilaloswal.com/Commodityhttp://www.motilaloswal.com/Retail/RetailContents.aspx?ReportID=4C85DF26-14A8-4DCF-AF90-D9368AAE1F74http://www.motilaloswal.com/Retail/RetailContents.aspx?ArticleID=e424c05f-9d2a-494e-ba04-27c8a2cf6c7dhttp://www.motilaloswal.com/Retail/RetailContents.aspx?ArticleID=1507a912-dded-4ca7-b987-db9295ae213bhttp://www.motilaloswal.com/Retail/RetailContents.aspx?ArticleID=0115fbb7-ead7-4679-8e44-56d281869781http://www.motilaloswal.com/Retail/RetailContents.aspx?ArticleID=0115fbb7-ead7-4679-8e44-56d281869781http://www.motilaloswal.com/Retail/RetailContents.aspx?ArticleID=a1e21d74-0b41-48ca-8084-51f0c29fb116http://www.motilaloswal.com/Content.aspx?ReportID=0C2B2131-A6CA-444E-A7A3-C641AFEFB554


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We offer equity broking services in the cash and derivative segments to institutional clients inIndia and overseas. These clients include companies, mutual funds, banks, financial institutions,insurance companies, and FIIs. As at March 31st, 2009, we were empanelled with over 300institutional clients including 200 FIIs. We service these clients through dedicated sales teamsacross different time zones.

Investment Banking

We offer financial advisory services relating to mergers and acquisitions (domestic and cross-border), divestitures, restructurings and spin-offs through Motilal Oswal Investment AdvisorsPrivate Ltd. (MOIAPL)

We also offer capital raising and other investment banking services such as the management ofpublic offerings, private placements (including qualified institutional placements), rights issues,share buybacks, open offers/delistings and syndication of debt and equity.

MOIAPL has closed 23 transactions in 2007-08 worth US$ 1.8 billion and had 18 mandates inhand as at March 31, 2008.

Private Equity

In 2006, our private equity subsidiary, Motilal Oswal Private Equity Advisors Private Ltd(MOPEAPL) was appointed as the investment manager and advisor to a private equity fund,India Business Excellence Fund, which was launched with a target of raising US$100 million.

The fund is aimed at providing growth capital to small and medium enterprises in India, withinvestments typically in the range of US$3 million to US$7 million.

MOPEAPL will manage and advise the fund and other private equity funds, which may be raisedin the future. In its final closing, in December 2007, the fund obtained commitments of US$125mn (Rs.4,875 mn) from investors in India and overseas. The Fund has deployed/ committed $ 58mn across 8 deals.

MOPEAPL has recently launched an INR 750 crores domestic Real Estate Private Equity Fundcalled India Realty Excellence Fund sponsored by Motilal Oswal Financial Services Ltd.

Principal Strategies Group
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For effective management of treasury operations and to capitalize on market opportunities, theGroup has set up a 30 member team which would be responsible for effective deployment offunds into different trading and arbitrage strategies.

Focus on Research

Research is the solid foundation on which Motilal Oswal Securities advice is based. Almost 10%of revenue is invested on equity research and we hire and train the best resources to becomeadvisors. At present we have 22 equity analysts researching over 27 sectors. From a fundamental,technical and derivatives research perspective; Motilal Oswal's research reports have receivedwide coverage in the media (over a 1000 mentions last year). Our consistent efforts towardsquality equity research has reflected in an increase in the ratings and rankings across variouscategories in the AsiaMoney Brokers Poll over the years

Our uniqueWealth Creation Study, authored by Mr. Raamdeo Agrawal, Managing Director, isnow in its 13th year. Investors keenly await this annual study for the wealth of information it hason the companies that created wealth during the preceding five years.

Awards and Accolades

Motilal Oswal Financial Services has received many accolades in the year gone by. Some ofthem are:

Rated Best Overall Country Research for a Local Brokerage in the 2007 AsiaMoney

Brokers poll

Rated Indias top broking house in terms of total number of trading terminals by the Dun

& Bradstreet survey

Rated Outstanding Commodity Broking House-2007 by Globoil India

Ranked second best for Customer Responsiveness in the Financial Sector at the Avaya

GlobalConnect Customer Responsiveness awards.

Corporate offices & Branches
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BRANCH-HEAD OFFICE

Palm Spring Centre,2nd Floor, Palm Court Complex,New Link Road, Malad (West),

Mumbai 400 064,Maharashtra, India.

LOCATION OF SIP COMPANY

Motilal Oswal Securities Ltd.Pukhraj House (Super Franchisee),

VIP Road, Dharampeth,

Nagpur.-440010, Maharashtra.

Tel.:0712-2554495, 3291306, 3291304

FUTURES AND OPTIONS

Futures & options are derivatives, which derive their values from equity as their underlying.

Hence our Equity Advisory Group (EAG), equipped with all the required skills and

understanding of Equity Derivatives, will act as your advisors in futures & options segment

as well to help you take informed trading decisions.

Why Futures and Options

Derivatives instruments are primarily hedging tools. Clients can be assisted in protecting the

downside risk to their portfolio using appropriate combination of options. Our advisory is

skilled to help you in maximizing your gains from your existing corpus using numerous


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strategies based on the direction and intensity of the views. Derivatives give an ability to

leverage; given the risk appetite clients can extrapolate their gains with the timely assistance

of our advisory. The Equity Advisor doesnt stop at just that, he goes a step further to ensure

that your trades are settled and traded with proper margin in your account in a timely

manner. This allows us to give you a convenient single window service and your advisor

becomes the single point contact for all your equity related matters.

You can avail of our services from all ourBusiness locations and through E broking across

India, as in equities.

EAG Process (Derivatives)

Client Profiling: MOSL Equity Advisor determines each EAG client's profile before

deciding the set of derivative strategies that will ideally suit you. If you have a good risk

appetite & are willing to take riskier bets for reciprocating returns, we will suggest

aggressive strategies like buying naked futures. On the other hand, if you are risk averse and

would like to protect yourself moderating some of your incremental gains but finding it

difficult to digest the bouts of volatility in the markets, we can suggest certain portfolio

hedging strategies to ease your worries.

Trading: The MOSL Equity Advisor is an expert in swift & timely execution of trading

ideas at the same time monitoring those ideas as per your profile.

Integrated Approach: We use integrated approach in our trading strategy using a

combination of futures and/or calls and/ or puts to help you optimally capitalize your view

reach your trading goal.

Portfolio Tracking Software: Your F&O position will be continuously monitored using

Portfolio Tracking Software.

Minimum requirements and fees structure: Margins as per NSE requirement and fees

structure varies from case to case.
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Normal Fees: Derivatives 0.10%.

Our Company is a member of the National Stock Exchange, which provides equity and

derivative trades execution through offline and online channels for the customers.

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 againstuncertainties arising out of fluctuations in asset prices. By their very nature, the financial marketsare marked by a very high degree of volatility. Through the use of derivative products, it ispossible to partially or fully transfer price risks by locking-in asset prices. As instruments of riskmanagement, these generally do not influence the fluctuations in the underlying asset prices.

However, by locking in asset prices, derivative products minimize the impact of fluctuations inasset prices on the profitability and cash flow situation of risk-averse Investors.

There are three major classes of derivatives:

Forward Contracts: A forward contract is an agreement to buy or sell an asset on a

specified date for a specified price. One of the parties to the contract assumes a longposition and agrees to buy the underlying asset on a certain specified future date for acertain specified price. The other party assumes a short position and agrees to sell theasset on the same date for the same price. Other contract details like delivery date, priceand quantity are negotiated bilaterally by the parties to the contract. The forward

contracts are normally traded outside the exchanges.

Futures: 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 specialtypes of forward contracts in the sense that the former are standardized exchange-traded contracts.

Options: Options are of two types - calls and puts. Calls give the buyer the

right but not the obligation to buy a given quantity of the underlying asset, ata given price on or before a given future date. Puts give the buyer the right,but not the obligation to sell a given quantity of the underlying asset at a given price

on or before a given date. Swaps: Swaps are private agreements between two parties to exchange cash flows

in the future according to a prearranged formula. They can be regarded asportfolios of forward contracts. The two commonly used swaps are:

Interest rate swaps:These entail swapping only the interest related cash flows betweenthe parties in the same currency.


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Currency swaps:These entail swapping both principal and interest between the parties,with the cash flows in one direction being in a different currency than those in theopposite direction.

History of Futures and Options

History of futures

The origins of futures trading can be traced to Ancient Greek, in Aristotle's writings. He tells thestory of Thales, a poor philosopher from Miletus who developed a "financial device, whichinvolves a principle of universal application." Thales used his skill in forecasting and predictedthat the olive harvest would be exceptionally good the next autumn. Confident in his prediction,he made agreements with local olive-press owners to deposit his money with them to guarantee

him exclusive use of their olive presses when the harvest was ready. Thales successfullynegotiated low prices because the harvest was in the future and no one knew whether the harvestwould be plentiful or pathetic and because the olive-press owners were willing to hedge againstthe possibility of a poor yield. When the harvest-time came, and a sharp increase in demand forthe use of the olive presses outstripped supply, he sold his future use contracts of the olivepresses at a rate of his choosing, and made a large quantity of money.

Introduction to Futures:

Futures markets were designed to solve the problems that exist in forward markets. A futurescontract is an agreement between two parties to buy or sell an asset at a certain time in the futureat a certain price. But unlike forward contracts, the futures contracts are standardized andexchange traded. To facilitate liquidity in the futures contracts, the exchange specifies certainstandard 27 features of the contract. It is a standardized contract with standard underlyinginstrument, a standard quantity and quality of the underlying instrument that can be delivered, (or

which can be used for reference purposes in settlement) and a standard timing of such settlement.A futures contract may be offset prior to maturity by entering into an equal and oppositetransaction. More than 99% of futures transactions are offset this way. The standardized items ina futures contract are: Quantity of the underlying Quality of the underlying The date and the month of delivery The units of price quotation and minimum price change
http://en.wikipedia.org/wiki/Ancient_Greekhttp://en.wikipedia.org/wiki/Aristotlehttp://en.wikipedia.org/wiki/Thaleshttp://en.wikipedia.org/wiki/Ancient_Greekhttp://en.wikipedia.org/wiki/Aristotlehttp://en.wikipedia.org/wiki/Thales


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Location of settlement

Futures Terminology

Spot price: The price at which an asset trades in the spot market.

Futures price: The price at which the futures contract trades in the futures market.

Contract cycle: The period over which a contract trades. The index futures contracts on

the NSE have one- month, two-months and three months expiry cycles which expire onthe last Thursday of the month. Thus a January expiration contract expires on the lastThursday of January and a February expiration contract ceases trading on the lastThursday of February. On the Friday following the last Thursday, a new contract having athree- month expiry is introduced for trading.

Expiry date: It 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 exist.

Contract size: The amount of asset that has to be delivered under one contract. Also

called as lot size.

Basis: In the context of financial futures, basis can be defined as the futures price minus

the spot price. There will be a different basis for each delivery month for each contract. Ina normal market, basis will be positive. This reflects that futures prices normally exceedspot prices.

Cost of carry: The relationship between futures prices and spot prices can be summarized

in terms of what is known as the cost of carry. This measures the storage cost plus theinterest that is paid to finance the asset less the income earned on the asset.

Initial margin: 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.

Marking-to-market: In the futures market, at the end of each trading day, the margin

account is adjusted to reflect the investor's gain or loss depending upon the futuresclosing price. This is called marking-to-market.

Maintenance margin: This is somewhat lower than the initial margin. This is set to

ensure that the balance in the margin account never becomes negative. If the balance inthe margin account falls below the maintenance margin, the investor receives a margincall and is expected to top up the margin account to the initial margin level before tradingcommences on the next day.


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There are two basic types of options, call options and put options:

Call option: A call option gives the holder the right but not the obligation to

buy an asset by a certain date for a certain price.

Put option: A put option gives the holder the right but not the obligation to

sell an asset by a certain date for a certain price.

Option price/premium: Option price is the price which the option buyer pays to the

option seller. It is also referred to as the option premium.

Expiration date: The date specified in the options contract is known as the expiration

date, the exercise date, the strike date or the maturity.

Strike price: The price specified in the options contract is known as the strike price orthe exercise price.

American options: American options are options that can be exercised at any time upto

the expiration date. Most exchange-traded options are American.

European options: European options are options that can be exercised only on the

expiration date itself. European options are easier to analyze than American options, andproperties of an American option are frequently deduced from those of its Europeancounterpart.

In-the-money option: An in-the-money (ITM) option is an option that would lead to a

positive cashflow to the holder if it were exercised immediately. A call option on theindex is said to be in-the-money when the current index stands at a level higher than thestrike price (i.e. spot price > strike price). If the index is much higher than the strikeprice, the call is said to be deep ITM. In the case of a put, the put is ITM if the index isbelow the strike price.

At-the-money option: An at-the-money (ATM) option is an option that would lead to

zero cashflow if it were exercised immediately. An option on the index is at-the-moneywhen the current index equals the strike price(i.e. spot price = strike price).

Out-of-the-money option: An out-of-the-money (OTM) option is an option that would

lead to a negative cashflow if it were exercised immediately. A call option on the index isout-of-the-money when the current index stands at a level which is less than the strikeprice (i.e. spot price < strike price). If the index is much lower than the strike price, the

call is said to be deep OTM. In the case of a put, the put is OTM if the index is above thestrike price.


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another.

Although some of us may fantasize about a world where profit potentials are limitless but also

risk free, hedging can't help us escape the hard reality of the risk-return tradeoff. A reduction in

risk will always mean a reduction in potential profits. So, hedging, for the most part, is a

technique not by which you will make money but by which you can reduce potential loss. If the

investment you are hedging against makes money, you will have typically reduced the profit that

you could have made, and if the investment loses money, your hedge, if successful, will reduce

that loss.

How Do Investors Hedge?

Hedging techniques generally involve the use of complicated financial instruments known as

derivatives, the two most common of which are options and futures. We're not going to get intothe nitty-gritty of describing how these instruments work, but for now just keep in mind that with

these instruments you can develop trading strategies where a loss in one investment is offset by a

gain in a derivative difficult to achieve in practice.

What Hedging Means to You

The Downside

Every hedge has a cost, so before you decide to use hedging, you must ask yourself if the

benefits received from it justify the expense. Remember, the goal of hedging isn't to make money

but to protect from losses. The cost of the hedge - whether it is the cost of an option or lost

profits from being on the wrong side of a futures contract - cannot be avoided. This is the price

you have to pay to avoid uncertainty.

We've been comparing hedging versus insurance, but we should emphasize that insurance is far

more precise than hedging. With insurance, you are completely compensated for your loss

(usually minus a deductible). Hedging a portfolio isn't a perfect science and things can go wrong.

Although risk managers are always aiming for the perfect hedge, it is

The majority of investors will never trade a derivative contract in their life. In fact most buy-and-

hold investors ignore short-term fluctuation altogether. For these investors there is little point in

engaging in hedging because they let their investments grow with the overall market.
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So why learn about hedging?

Even if you never hedge for your own portfolio you should understand how it works because

many big companies and investment funds will hedge in some form. Oil companies, for example,

might hedge against the price of oil while an international mutual fund might hedge against

fluctuations in foreign exchange rates. An understanding of hedging will help you to comprehend

and analyze these investments.

1. Options Strategies: Long CallPurchasing calls has remained the most popular strategy with investors since listed options werefirst introduced. Before moving into more complex bullish and bearish strategies, an investorshould thoroughly understand the fundamentals about buying and holding call options.

Market Opinion ?

Bullish to Very Bullish

When to Use?

This strategy appeals to an investor who is generally more interested in the dollar amount of hisinitial investment and the leveraged financial reward that long calls can offer. The primarymotivation of this investor is to realize financial reward from an increase in price of the


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underlying security. Experience and precision are key to selecting the right option (expirationand/or strike price) for the most profitable result. In general, the more out-of-the-money the callis the more bullish the strategy, as bigger increases in the underlying stock price are required forthe option to reach the break-even point.

2. Options Strategies: Long Put

A long put can be an ideal tool for an investor who wishes to participate profitably from adownward price move in the underlying stock. Before moving into more complex bearishstrategies, an investor should thoroughly understand the fundamentals about buying and holdingput options.

Market Opinion?

Bearish

When to Use?

Purchasing puts without owning shares of the underlying stock is a purely directional strategyused for bearish speculation. The primary motivation of this investor is to realize financialreward from a decrease in price of the underlying security. This investor is generally moreinterested in the dollar amount of his initial investment and the leveraged financial reward thatlong puts can offer than in the number of contracts purchased.


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Experience and precision are key in selecting the right option (expiration and/or strike price) forthe most profitable result. In general, the more out-of-the-money the put purchased is the morebearish the strategy, as bigger decreases in the underlying stock price are required for the optionto reach the break-even point.

3. Options Strategies: Married Put

An investor purchasing a put while at the same time purchasing an equivalent number of sharesof the underlying stock is establishing a "married put" position - a hedging strategy with a namefrom an old IRS ruling.

Market Opinion?

Bullish to Very Bullish

When to Use?

The investor employing the married put strategy wants the benefits of stock ownership

(dividends, voting rights, etc.), but has concerns about unknown, near-term, downside marketrisks. Purchasing puts with the purchase of shares of the underlying stock is a directional andbullish strategy. The primary motivation of this investor is to protect his shares of the underlyingsecurity from a decrease in market price. He will generally purchase a number of put contractsequivalent to the number of shares held.


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5. Options Strategies: Covered Call

The covered call is a strategy in which an investor writes a call option contract while at the sametime owning an equivalent number of shares of the underlying stock. If this stock is purchasedsimultaneously with writing the call contract, the strategy is commonly referred to as a "buy-write." If the shares are already held from a previous purchase, it is commonly referred to an"overwrite." In either case, the stock is generally held in the same brokerage account from whichthe investor writes the call, and fully collateralizes, or "covers," the obligation conveyed bywriting a call option contract. This strategy is the most basic and most widely used strategycombining the flexibility of listed options with stock ownership.

Market Opinion?

Neutral to Bullish on the Underlying Stock

When to Use?

Though the covered call can be utilized in any market condition, it is most often employed whenthe investor, while bullish on the underlying stock, feels that its market value will experience


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not be a financial burden. This strategy can become speculative when more puts are written thanthe equivalent number of shares desired to own.

7. Options Strategies: Bull Call Spread

Establishing a bull call spread involves the purchase of a call option on a particular underlyingstock, while simultaneously writing a call option on the same underlying stock with the same

expiration month, at a higher strike price. Both the buy and the sell sides of this spread areopening transactions, and are always the same number of contracts. This spread is sometimesmore broadly categorized as a "vertical spread": a family of spreads involving options of thesame stock, same expiration month, but different strike prices. They can be created with either allcalls or all puts, and be bullish or bearish. The bull call spread, as any spread, can be executed asa"unit" in one single transaction, not as separate buy and sell transactions. For this bullishvertical spread, a bid and offer for the whole package can be requested through your brokeragefirm from an exchange where the options are listed and traded.

Market Opinion?

Moderately Bullish to Bullish

When to Use?

Moderately Bullish

An investor often employs the bull call spread in moderately bullish market environments, andwants to capitalize on a modest advance in price of the underlying stock. If the investor's opinionis very bullish on a stock it will generally prove more profitable to make a simple call purchase.


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Risk Reduction

An investor will also turn to this spread when there is discomfort with either the cost ofpurchasing and holding the long call alone, or with the conviction of his bullish market opinion.

8. Options Strategies: Bear Put Spread

Establishing a bear put spread involves the purchase of a put option on a particular underlyingstock, while simultaneously writing a put option on the same underlying stock with the sameexpiration month, but with a lower strike price. Both the buy and the sell sides of this spread are

opening transactions, and are always the same number of contracts. This spread is sometimesmore broadly categorized as a "vertical spread": a family of spreads involving options of thesame stock, same expiration month, but different strike prices. They can be created with either allcalls or all puts, and be bullish or bearish. The bear put spread, as any spread, can be executed asa "package" in one single transaction, not as separate buy and sell transactions. For this bearishvertical spread, a bid and offer for the whole package can be requested through your brokeragefirm from an exchange where the options are listed and traded.

Market Opinion?

Moderately Bearish to Bearish

When to Use?

Moderately Bearish

An investor often employs the bear put spread in moderately bearish market environments, andwants to capitalize on a modest decrease in price of the underlying stock. If the investor's opinionis very bearish on a stock it will generally prove more profitable to make a simple put purchase.


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Risk Reduction

An investor will also turn to this spread when there is discomfort with either the cost ofpurchasing and holding the long put alone, or with the conviction of his bearish market opinion.

9. Options Strategies: Collar

A collar can be established by holding shares of an underlying stock, purchasing a protective putand writing a covered call on that stock. The option portions of this strategy are referred to as acombination. Generally, the put and the call are both out-of-the-money when this combination is

established, and have the same expiration month. Both the buy and the sell sides of this spreadare opening transactions, and are always the same number of contracts. In other words, one collarequals one long put and one written call along with owning 100 shares of the underlying stock.The primary concern in employing a collar is protection of profits accrued from underlyingshares rather than increasing returns on the upside.

Market Opinion?

Neutral, following a period of appreciation

When to Use?

An investor will employ this strategy after accruing unrealized profits from the underlyingshares, and wants to protect these gains with the purchase of a protective put. At the same time,the investor is willing to sell his stock at a price higher than current market price so an out-of-the-money call contract is written, covered in this case by the underlying stock.


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10.Options Strategies: Long Straddle

The long straddle is simply the simultaneous purchase of a long call and a long put on the sameunderlying security with both options having the same expiration and same strike price. Becausethe position includes both a long call and a long put, the investor in a straddle should have acomplete understanding of the risks and rewards associated with both long calls and long puts.

**Since the straddle involves two trades, a commission charge is likely for the purchase (and anysubsequent sale) of each position -- one commission for the call and one commission for the put.

Market Opinion?

Increasing volatility and large price swings in the underlying security. Potentially profit from abig move, either up or down, in the underlying price during the life of the options.

When to Use?

Purchasing only long calls or only long puts is primarily a directional strategy. The long straddlehowever, consisting ofboth long calls and long puts is not a directional strategy, rather it is onewhere the investor feels large price swings are forthcoming but is unsure of the direction. Thisstrategy may prove beneficial when the investor feels large price movement, either up or down,is imminent but is uncertain of the direction.


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An instance of when a straddle may be considered is when the investor believes there is newsforthcoming. An example may be when one is anticipating news regarding a drug in trials from abiotechnology company. The investor feels the news surrounding the drug will introduce largeprice swings in the underlying but is unsure of whether this news will have a positive or negativeimpact on the price. If the news is positive, this may positively impact the price of the security. If

the news is disappointing, the stock could decline considerably. The risk is the stock remaining atthe strike price of the straddle until expiration.

11.Options Strategies: Long Strangle

The long strangle is simply the simultaneous purchase of a long call anda long put on the sameunderlying security with both options having the same expiration but where the put strike price islower than the call strike price. Because the position includes both a long call and a long put, the

investor using a long strangle should have a complete understanding of the risks and rewardsassociated with both long calls and long puts.

Market Opinion?

Increasing volatility and extremely large price swings in the underlying security. Potentiallyprofit from a large move, either up or down, in the underlying price during the life of the options.

When to Use?

Purchasing only long calls or only long puts is primarily a directional strategy. The long stranglehowever, consisting ofboth long calls and long puts is a not a directional strategy, rather onewhere the investor feels extremely large price swings are forthcoming but is unsure of thedirection. This strategy may prove beneficial when the investor feels large price movement,either up or down, is about to happen but uncertain of the direction.

An instance of when a strangle may be considered is when an earnings announcement isforthcoming. The investor feels the projected announcement will introduce large price swings inthe underlying. If the earnings announcement and future outlook is positive, this may positively


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impact the price of the security. If the earning announcement and outlook is negative, or fails toimpress investors, the stock could decline considerably. The risk is the stock remains stable orbetween the strike price of the call and strike price of the put until expiration. Another risk is thatthe stock's move does not produce a corresponding option price increase that is enough to coverthe two premiums paid for the position. Declining implied volatility will also negatively impact

this strategy.

Conclusion

Derivatives are extremely important and have a big impact on other financial market

and the economy. The project is designed to upgrade investors knowledge with the

basics of how to make investment decisions in futures & options with reference to bear

market. Analyze the fundamental, technical and other factors for dealing in futures &

options. Hedging is for minimizing risk not for maximizing the profit. For many investors,

options are useful as tools of risk management.


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8) A Beginner's Guide To Hedging
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