Derivative Trading
F&O Trading lets you trade in futures and options (F&O) segment. F&O contracts are derivative instruments traded on the stock exchange. The instrument has no independent value, with the same being ‘derived’ from the value of the underlying asset. The asset could be securities, commodities or currencies. Its value varies with the value of the underlying asset. The contract or the lot size is fixed. Futures contract: means you agree to buy or sell the underlying security at a 'future' date. If you buy the contract, you promise to pay the price at a specified time. If you sell it, you must transfer it to the buyer at a specified price in the future. Options contract: This gives the buyer the right to buy/sell the underlying asset at a predetermined price, within, or at end of a specified period. He is, however, not obligated to do so. The seller of an option is obligated to settle it when the buyer exercises his right.
Types of Options in Derivatives
Call Option
A call option is an agreement that gives an investor the right, but not the obligation, to buy a stock, bond, commodity or other instrument at a specified price within a specific time period. In simple terms, it means that when you buy a call you purchase the right to buy a certain amount of shares or an index, at a predetermined price, on or before a specific date. The predetermined price is called the strike price or exercise price and the date until which you can exercise the Option is called the expiry date.
Put Option
A put option is an option contract giving the owner the right, but not the obligation, to sell a specified amount of an underlying security (stock, bond, commodity or other instrument) at a specified price within a specified time. Put option is a derivative contract between two parties where the buyer of the put option earns a right to exercise his option to the put option seller for a stipulated period of time. Puts are options contracts give you the right to sell the underlying stock or index at a pre-determined price on or before a specified expiry date in the future.
Common Terms in the F&O Market
Short Position
A short position is when the price of a future or option goes down. Here short sellers make money till the time it is offset.
Long Position
In f&o trading when the buyer buys an asset expecting a rise in its value then it is called a long position till it is offset.
Option Writer
Option Writer is a certified trading member of the exchange who writes option contracts to earn the premium given by the buyer.
Strike Price
In f&o trading, the strike price is the price where the put or call option can be used
At The Money
At the money option is when the value of the asset is the same as the strike price. There are no changes in the prices.
Near The Money
Near the money is when the strike price and the value of the asset are close enough.
In the Money
In case of a Put Option- ‘In the Money’ is the strike price which is higher than ‘At the Money’ or ‘Near the Money’ price. In case of a Call Option- ‘In the Money’ is the strike price which is lower than ‘At the Money’ or ‘Near the Money’ price.
Out of the Money
In case of a Put Option- ‘Out of the Money’ is the strike price which is lower than ‘At the Money’ or ‘Near the Money’ price. In case of a Call Option- ‘Out of the Money’ is the strike price which is higher than ‘At the Money’ or ‘Near the Money’ price.
Market Lot
The minimum number of shares bought in f&o trading is called the market lot.
Time Decay
The options contract has a deadline. As the deadline approaches the value starts declining which is known as time decay.
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Frequently Asked Questions
Derivatives are financial instruments whose value is derived from other underlying assets. This means that the derivative by itself doesn't hold any value of its own. There are mainly four types of derivative contracts such as futures, forwards, options & swaps. However, the most popular and preferred derivative instrument is Future & Options.