A Study on Risk Return Analysis in Futures and Options (1)

8/13/2019 A Study on Risk Return Analysis in Futures and Options (1)

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EXECUTIVE SUMMARY

Markets have always played a central role in the economic development and ensuring orderly

conduct of markets had been a constant endeavor various theories have provided an essential back drop to analyze

and understand market behavior. In the case of financial markets, the prominent ones are. Efficient market

hypothesis agency theory and information theory. Whenever the assumptions of these theories are not met fully

there begins a case for regulation. The key concerns of financial market regulators are market integrity systemic

safety and customer protection. These three concerns are inter wined and inter related.

s it is evident from the growth pattern of the international markets that develop countries have

maintained their position, while the emerging markets are also coming forward with full strength. few

prominent emerging trends are the investors are becoming more market savvy information and communication

technology is revolutionizing the way transactions are carried out world is becoming a financial village

emergence of trans!national business demands better coordination among regulators etc. In the future Indian

markets are e"pected to become more vibrant and attain a leading position in the global financial system. With

increasing role of information and communication technology information asymmetry is e"pected to reduce at an

increasing rate organized e"changes are likely to become one!stop financial shopping malls.

The committee has noted recent introduction of new products based on its interim recommendations and it

has further recommended widening the range of new products. It is e"pected that these new products, namely

mini contracts on e#uity inde", options contract with longer life$tenure creation of volatility inde" and futures and

options contracts on it, options on futures, creation of bond inde"es and futures and options contracts on them,

e"change traded currency %foreign e"change& futures and options contracts, e"change 'traded products involving

different strategies, e"change traded credit derivatives over the count or product and e"change traded third party

products will be able to meet the needs of various classes of investors. Each class of these products needs to be

carefully designed and risk management specified by the e"changed with due approval by (E)I.

*inally the committee feels that while the small individual investors could best protect their investments by

hedging their positions in options market, they should carefully consider taking positions on futures markets

because mark!to!market losses resulting in margin calls could wipe out small individual investors.

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INTRODUCTION:

DERIVATIVES:

erivative is a financial instrument that derives its value from an underlying asset. erivative is an

financial contract whose price$value is dependent upon price of one or more basic underlying asset, these

contracts are legally binding agreements made on trading screens of stock e"changes to buy or sell an asset in the

future. These assets can be anything ranging from share, inde", bond, rupee dollar e"change rate, sugar crude,

soya bean, cotton, coffee etc.

erivative on its own does not have any value. It is considered important because of its underlying asset.

erivatives can of different types like forwards, futures, option, swaps, collars, caps, floor etc. The most popular

derivative instruments are futures and options.

Example-

very simple e"ample of derivative is curd, which is derivative of milk. The price of curd depends upon

the price of milk, which in turn depends upon the demand, and supply of milk. et/s see it in this way, the price of

the 0eliance Triple 1ption 2onvertible debentures 30eliance T124 varies upon the price of the 0eliance (hares,

similarly the price of TE21 Warrants depends upon the price of the TE21 shares.

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The merican epository 0eceipts 304 and 6lobal epository 0eceipts 3604 1f I2I2I, (atyam and

Infosys Traded on stock e"changes in 7(8 of 9(, draw their values from the prices of shares traded in

India. (imilarly in mutual funds the prices of mutual fund units depends upon the prices of portfolio of securities

under that scheme.

History of Deriaties

The erivatives market has e"isted from centuries as need for both users and producers of natural

resources to hedge against price fluctuations in underlying commodities. lthough trading in agriculture and other

commodities has been the driving force behind the development of erivatives market in India, the demand for

products based on financial instruments ' such as bond, currencies, stocks and stock indices had outstripped the

commodities markets.

India has been trading in derivatives market in (ilver, spices, gold, coffee, cotton and in oil markets for

decade/s gray market. Trading in derivatives market was legal before Morar:i esai/s 6overnment had bannedforward contracts. erivatives on stocks were traded in the form of Te:i and mandi in unorganized markets.

0ecently futures contracts various commodities were allowed to be on various e"changes. *or E"ample 2otton

and 1il futures were traded in Mumbai, (oya bean futures in )hopal, ;epper futures in <ochi, 2offee futures in

)angalore etc.

In =une 5>>>, 7ational stock e"change and )ombay stock e"change started trading in futures in (ense"

and 7ifty. 1ptions trading on (ense" and 7ifty commenced in =une 5>>+. ?ery soon thereafter trading began on

futures and options on @+ prominent stocks in the month of =uly and 7ovember respectively, currently there areA+ stocks trading in 7(E derivatives and the list keeps growing.

erivatives products initially emerged has hedging devices against fluctuations in commodity prices and

commodity linked derivatives remained the sole form of such products for almost three hundred years. The

financial derivatives came into spotlight in post +BC> period, due to the in stability in the financial markets.

*inancial derivatives are instruments that their value from financial assets. These assets can be stocks,

bonds, currency etc. These erivatives can be *orward rate agreements, *utures, 1ptions, and (waps. s statedearlier the most traded instruments are futures and options. Dowever these products became very popular and by

+BB>s, they accounted for about two!thirds of total transactions in derivatives products. In recent years, the market

for financial derivatives has grown tremendously.

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)oth in terms of variety of instruments available, their comple"ity and also turnover. In class of e#uity

derivatives, futures and options on stock indices have gained more popularity than on individual stocks, especially

among the institutional investors, who are ma:or users of inde"!linked derivatives. Even small investors find these

useful due to high correlation of popular indices with various portfolios and ease of use.

The following factors have been driving the growth of financial derivatives- Increased volatility in asset prices in financial markets.

Increased integration of national financial markets with the international markets.

Marked improvement in communication facilities and sharp decline in their costs.

Innovations in the derivatives markets, which optimally combine the risks and returns over a large

number of financial assets, leading to higher returns, reduced risks as well as transactions costs as

compared to individual financial assets.

!"AYERS IN THE MAR#ET

The following are the players in the erivatives markets-

Spe$%lators-

;eople who buy or sell in the market to make profits. *or e"ample, if you will the stock price of

0eliance is e"pected to go up to 0s. A>> in one month one can buy a one!month future of 0eliance at 0s. @F> and

make profits.

He&'ers-

;eople who buy or sell to minimize their losses. *or e"ample, an importer has to pay 9( G to buy goods

and rupee is e"pected to fall to 0s.F>$G from 0s.AH$G, then the importer can minimize his losses by buying a

currency future at 0s.AB$G.

Ar(itra'e%rs-

;eople who buy or sell to make money on price differentials in different markets. *or e"ample, a futures

price is simply the current price plus the interest cost. If there is any change in the interest, it presents an arbitrage

opportunity. We will e"amine this in detail when we look at futures in a separate chapter. )asically, every

investor assumes one or more of the above and derivatives are a very good option for him.

TY!ES O) DERIVATIVES

The most commonly used derivatives contracts are forwards, futures and options, which we shall discuss

in detail later. Dere we take a brief look at various derivatives contracts that have come to be used.

A



)or*ar&s-

forward contract is a customized contract between two entities, where settlement takes place on

specific date in the future at today/s pre!agreed price.

)%t%res- 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. *utures contracts are special types of forward contracts in the sense that

the former are standardized e"change!traded contracts.

Optio+s-

1ptions are of two types

2all option

;ut option

Call optio+:

2all option gives the buyer the right but not the obligation to buy a given #uantity of the underlying

asset, at a given price on or before a given future date.

!%t optio+:

;ut option gives the buyer the right, but not the obligation to sell a given #uantity of the underlying asset

at a given price on or before a given date.

,arra+ts-

1ptions generally have lives of unto one year, the ma:ority of options traded on options e"changes

having a ma"imum maturity of nine months. onger!dated options are called warrants and are generally traded

over the years.

-as.ets-

)asket options are on portfolios of underlying assets. The underlying asset is usually a moving average or

a basket of assets. E#uity inde" options are a form of basket options

S*aps-

(waps are private agreements between two parties to e"change cash flows in the future according to a

prearranged formula. They can be regarded as portfolios of forward contracts. The two commonly used swaps are-

F



I+terest rate s*aps-

These entail swapping only the interest related cash flows between the parties in the same currency.

C%rre+$y s*aps-

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 the opposite direction.

NEED O) THE STUDY

The turnover of the stock e"change has been tremendously increasing from last +> years. The

number of trades and the number of investors, who are participating, have increased. The investors are

willing to reduce their risk, so they are seeking for the risk management tools.

;rior to (E)I abolishing the ) system, the investors had this system as a source of

reducing the risk, as it has many problems like no strong margining system, unclear e"piration date and

generating counter party risk. In view of this problem (E)I abolished the ) system.

fter the abolition of the ) system, the investors are seeking for a hedging system, which

could reduce their portfolio risk. (E)I thought the introduction of the derivatives trading, as a first step it

has set up a 5A member committee under the chairmanship of r. .2. 6upta to develop the appropriate

framework for derivatives trading in India, (E)I accepted the recommendation of the committee on may

++, +BBH and approved the phase introduction of the derivatives trading beginning with stock inde"

futures.

There are many investors who are willing to trade in the derivatives segment, because of its

advantages like limited loss unlimited profit by paying the small premiums.



SCO!E O) THE STUDY:

The study is limited to J0isk 0eturn nalysis of *utures K 1ptionsL with special reference to

futures and option in the Indian conte"t and the Inter!2onnected (tock E"change has been taken as a

representative sample for the study. The study can/t be said as totally perfect. ny alteration may come.

The study has only made a humble attempt at evaluation derivatives market only in India conte"t. The

study is not based on the international perspective of derivatives markets, which e"ists in 7(8,

2)1T etc.

O-/ECTIVE O) THE STUDY

To study the benefits of *utures and 1ptions in Indian Market.

To study the functioning of futures K options in financial market.

To make decisions of the shareholders in overcoming by investing in futures and

options

To study K compare the returns on inviting in future options.

To study the different ways of buying and selling of options.

To study the role of derivatives in India financial market.

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"IMITATIONS O) THE STUDY:

The following are the limitation of this study.

The study of this pro:ect is limited to only AF days.

The ma:or limitation of this pro:ect is time fact.

The scrip is selected for analysis through secondary data so the analysis cannot be taken asuniversal.

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INDUSTRY !RO)I"E

HISTORY O) STOC# EXCHAN0E:

The only stock e"change operating in the +Bth century were those of )ombay set up in

+HCF and hmadabad set up in +HBA. These were organized as voluntary non profit!making

association of brokers to regulate and protect their interests. )efore the controls on securitiestrading became central sub:ect under the constitution in +BF>, it was a state sub:ect and the

)ombay securities contracts 3control4 ct of +B5F used to regulate trading in securities. 9nder

this act, the )ombay stock was recognized in +B5C and hmadabad in +B@C.

uring the war boom, a number of stock e"changes were organized in )ombay,

hmadabad and other centers, but they were not recognized. (oon after it became a central

sub:ect, central legislation was proposed and a committee headed by . 6orwala went into the

bill for securities regulation. 1n the basis of the committee/s recommendations and publicdiscussion, the securities contracts 3regulation4 ct became law in +BF.

DE)INATION O) STOC# EXCHAN0E:

J(tock e"change means anybody or individuals whether incorporated or not, constituted

for the purpose of assisting, regulating or controlling the business of buying, selling or dealing in

securities.L

It is an association of member brokers for the purpose of self!regulation and protecting theinterests of its members.

It can operate only. If that 6overnment under securities recognizes it contracts 3regulation4 ct

+BF.The recognition is granted under section @ of the act by the central government, ministry of

*inance.

NEED )OR STOC# EXCHAN0E:

+>



s the business and industry e"panded and economy became more comple" in nature, a

need for permanent finance arose. Entrepreneurs re#uire money for long!term needs, where as

investors demand li#uidity. The solution to this problem gave way for the origin of (tock

E"change/, which is a ready market for investment and li#uidity.)UNCTIONS O) STOC# EXCHAN0E:

Mai+tai+s A$tie Tra&i+':

(hares are traded on the stock e"changes, enabling the investors to buy and sell securities.

The prices may vary from transaction to transaction. continues trading increases the li#uidity or

marketability of the shares traded on the stock e"changes.

)ixatio+s of pri$es:

;rices are determined by the transactions that flow from investors demand and the supplies

preferences. 9sually the traded prices are named known to the public. This helps the investors to

make better decisions.

E+s%res safe a+& fair &eali+'s:

The rules, regulations and bye laws of the stock e"changes provide a measure of safety to the

investors to get a fair deal.

Ai&s i+ fi+a+$i+' t3e i+&%stry:

continuous market for shares provided a favorable climate for raising capital. The negotiability

and transferability of the securities help the companies to raise long!term funds. s it is easy to

trade the securities, investors are willing to subscribe the Initial public offerings 3I;14. This

stimulates the capital formation.

Dissemi+atio+ of I+formatio+:

(tock E"change provides information through their various publications. They publish the share

prices traded on their basis along with the volume traded. irectory of corporate information is

useful for the investor/s assessment regarding the corporate. Dandouts and pamphlets provide

information regarding the functioning of the stock e"changes.

!erforma+$e i+&%$ers:

The prices of stocks reflect the performance of the traded companies. This makes the corporate

more concerned with its public image and tries to maintain good performance.

Self4re'%lati+' or'a+i7atio+s:

++



The stock e"changes monitor the integrity of the members, brokers, listed companies and clients.

2ontinuous internal audit safeguards the investors against unfair trade practices. It settles the

disputes between member broker, investors and brokers.

The national stock E"change 37(E4 of India became operational in the capital market segment on

@rd 7ovember +BBA in Mumbai. The genesis of 7(E lies in the recommendations of the pertainscommittee +BB+. part from the 7(E, it had recommended for the establishment of national

stock market system also. The committee pointed out some ma:or defects in the Indian stock

market. The efects specified are

+. ack of infrastructure facilities and outdated trading system.

5. ack of transparency in the operations that effect investor/s confidence.

@. 1ut dated settlement systems that are inade#uate to cater to the growing volume, leading to

delays.A. ack of single market due to inability of various stock e"changes to function cohesively with

legal structure and regularity framework.

These factors led to the establishment of the 7(E.

O-/ECTIVES:

+. To establish a nationwide trading facility for e#uities, debt instruments and hybrids.

5. To ensure e#ual access investors all over the country through appropriate communication

network.@. To provide a fair, efficient and transparent securities market to investors using an electronic

communication network.

A. To enable shorter settlement cycle and book entry settlement system.

F. To meet current international standards of securities market.

!ROMOTERS:

Industrial evelopment )ank of India 3I)I4

Industrial 2redit and Investment 2orporation of India 3I2I2I4

Industrial *inancing 2orporation of India 3I*2I4ife Insurance 2orporation of India 3I24

(tate )ank of India 3()I4

6eneral Insurance 2orporation 36I24

)ank of )aroda

2anara )ank

+5



2orporation )ank

Indian )ank

1riental )ank of 2ommererce

9nion )ank of India

;un:ab 7ational )ank Infrastructure easing and *inancial (ervices

(tock Dolding 2orporation of India

()I capital market

MEM-ERSHI!:

The membership is based on the factors as capital ade#uacy, corporate structure, Track

record, Education, E"perience etc.dmission is a two!storage process with applicants re#uired to

go through a written e"amination followed by an interview. committee consisting of

e"perienced professionals from the industry, to access the applicant/s capability to operate as an

e"change member. The e"change admits members separately to whole sale debt market 3WM4

segment and the capital market segment. 1nly corporate members are admitted to the debt market

segment where as individuals and firms are also eligible to the capital market segment.

Eligibility criteria for trading membership on the segment of W2M are as follows-

+. The person eligible to become trading members are bodies corporate, companies, institutions

including subsidiaries of banks engaged in financial services and such other persons or entities

are may be permitted from time to time by 0)IN(E)I.5. The Whole!Time irectors should possess at least two years e"perience in any activity related

to banking or financial services.

@. The applicant must be engaged solely in the business of the securities and must not be engaged

in any fund!based activities.

A. The applicant must possess a minimum of 0s.5crores.

Eli'i(ility $riteria for t3e $apital mar.et se'me+t are:

+. Individual, registered firms, corporate bodies, companies and such other persons may be

permitted under the (20 ct, +BFC.

5. The applicant may be engaged in the business of securities and must not be engaged in any

fund!based activities.

@. The minimum net worth re#uirements prescribed are as follows-

• Individuals and registered firms!0s.CFakhs.

+@



• 2orporate bodies!0s+>>akhs

• In case of partnership firm each partner should contribute at least FO of the net

worth of the firm.

A. corporate trading member should consist only of individuals 3ma"imum of A4

Who should directly hold at least A>O of the paid!up capital in case of listed companies and at

least F+O in case of these companies.

F.The minimum prescribed #ualification of graduation and two years e"perience of handling

securities as broker , (ub!broker, authorized assistant etc.,must be fulfilled by

• Minimum two directors in case the applicant are a corporate

• Minimum two partners in case of partnership firms

In case of individual or sole proprietary concerns. The two e"perienced directors in a corporate

applicant or trading member should hold minimum FO of the capital of the company.

MAR#4TO4MAR#ET MAR0IN AND INTRADAY "IMIT

9nder the current clearing and settlement system, if an Indian investor buys and

subse#uently sells the same number of shares of stock during a settlement period, or sells and

subse#uently buys, it is not necessary to take. 1r deliver the shares. The difference between the

selling and buying prices can be paid or received .In other words, the s#uaring 'off of the trading

position during the same settlement period results in non!delivery of the shares that the investor

traded.

Thus, possible at a relatively low cost.*II/s and domestic institutional increasing 7umber of no

delivery transactions as the stock market becomes e"cessively speculative. ccordingly, (E)I

has introduced a daily mark!to!market margin and intraday trading limit. The daily market!to!

market margin is a margin on a broker/s daily position. The intraday trading limit is the limit to a

broker/s intraday trading volume. Every broker is sub:ect to these re#uirements.

Each stock e"change may take any other measures to ensure the safety of the market.)(E and

7(E impose on members a more stringent daily margin, including one based on concentration of

business . daily mark!to!market margin is +>> percent of the notional loss of the stockbroker for

every stock, calculated as the difference between buying or selling price and the closing price of

that stock at the end of that day. Dowever, there is a threshold limit of 5F percent of the base

+A



minimum capital plus additional capital kept with the stock e"change or 0s + million, whichever

is lower. 9ntil the notional loss e"ceeds the threshold limit, the margin is not payable.

This margin is payable by a stockbroker to the stock e"change in cash or as a bank guarantee

from a scheduled commercial bank, on a net basis. It will be released ion the pay!in day for the

settlement period .The margin money is held by the e"change for !+5 days. This cost the broker about >.A!+.5 percent of the notional loss, assuming that the

broker/s funding cost is about 5A!@ percent. Thus (peculative trading without the delivery of

shares is no longer cost!free. Each broker/s trading volume during a day is not allowed to e"ceed

the intraday trading limit. This limit is @@.@ times the base minimum capital deposited with the

e"change on a gross basis.

i.e., purchase plus sale. In the event of brokers wishing to e"ceed this limit, they have to deposit

additional capital with the e"change and this cannot be withdrawn for si" months.

NEATSYSTEM:

7eat I( (TTE!1*!TDE! 0T 2IE7T (E0?E0 )(E ;;I2TI17. t the

server end, all trading information is stored in an in!memory database to achieve minimum

response time and ma"imum system availability for users. Each trading member trades on the

7(E with other members through a ;2 located in the trading member/s office, anywhere in India.

The trading members on the Wholesale ebt Market segment are linked to the central computer

at the 7(E through dedicated A<bps leased lines and ?(T terminals. These leased lines are

multiple"ed using dedicated 5 Mbps, optical!fiber links. The WM participants connect to thetrading system through dial!uplinks.

7(E is one the largest interactive ?(T based stocked e"change in the world. Today

it supports more than @>>> ?(Ts and is e"pected to grow to more than A>>> ?(Ts in the ne"t

year. The 7(E ' network in the world. 2urrently more than B>>> users are trading on the real

time!online 7(E application. There are over +F large computer systems.

INDICES

n Inde" is used to give information about the price movements of products in thefinancial, commodities or any other markets. *inancial inde"es are constructed to measure price

movements of stocks, bonds!bills and other forms of investments. (tock market inde"es are

meant to capture the overall behavior of e#uity markets. stock market inde" is created by

selecting a group of stock that are representative of the whole market or a specified sector or

+F



segment of market. n Inde" is calculated with reference to a base period and base inde" value.

(tock market inde"es are useful for a ?arity of reasons. (ome of them are

They provide a historical comparison of returns on money invested in the stock

market against other forms of investments such as gold or debt.

They can be used as a standard against which to compare the performance of an

e#uity fund.

It is a lead indicator of the performance of the overall economy or a sector of the

economy

(tock inde"es reflect highly up to date information

Modern financial applications such as Inde" *unds, Inde" *utures, Inde" 1ptions

play an important role in financial investments and risk management

Ma8or I+&i$es Ot3er I+&i$es

S9! CNX NI)TY CNX IT Se$tor I+&ex

CNX Nifty /%+ior CNX -a+. I+&ex

S9! CNX ;; CNX )MC0 I+&ex

CNX Mi&$ap 5;; CNX !SE I+&ex

S9! CNX Defty CNX MNC I+&ex

NSE4NI)TY

The national (tock E"change on pril 55, +BB launched a new E#uity Inde". The

7(E!F>.The new Inde" which replaces the e"isting 7(E!+>> Inde" is e"pected to serve as an

appropriate Inde" for the new segment of futures and options.

J7ifty Jmeans 7ational Inde" for *ifty (tock.

The 7(E!F> comprises F> companies that represent 5> broad Industry groups with an aggregatemarket capitalization of around 0s.+C>>>>crores.ll companies included in the inde" have a

market capitalization in e"cess of 0s.F>> cores each and should have traded for HFO of trading

days at an impact cost of less than +.FO.

+



The base period for the inde" is the close of prices on 7ov @, +BBF which makes one year of

completion of operation of 7(E/s capital market segment. The base value of the Inde" has been

set at +>>>.

7(E has also launched the 7(!27)2!T?+H media center in association with 27)2!T?+H,

India/s 7o.+ business news channel."o'o of NSE

The logo of the 7(E symbolizes a single nationwide securities trading facility ensuring

e#ual and fair access to investors, trading members and issuers all over the country. The initials

of the E"change viz., 7, ( and E have been etched on the logo and are distinctly visible. The logo

symbolizes use of state of the art information technology and satellite connectivity to bring about

the change within the securities industry. The logo symbolizes vibrancy and unleashing of

creative energy to constantly bring about change through innovation.

Missio+ O) NSE

7(E/s mission is setting the agenda for change in the securities markets in the India. The

7(E was set!up with the main ob:ective of-

• Establishing a nation!wide trading facility for e#uities, debt instruments and hybrids,

• Ensuring e#ual access to investors all over the country through an appropriate

communication network.

• ;roviding a fair , efficient and transparent securities market to investors using

electronic trading systems,

• Enabling shorter settlement cycles and book entry settlements systems, and

• Meeting the current international standards of securities markets.

The standards set by 7(E in terms of market practices and technologies have become industry

benchmarks and are being emulated by other market participants.7(E is more than a mere market

facilitators. It/s that force which is guiding the industry towards new horizons and greater

opportunities.

Corporate Str%$t%re:

7(E is one of the first de!mutualised stock e"changes in the country, where the ownership

and management of the E"change is completely divorced from the right to trade on it. Though the

+C



impetus for its establishment came from policy makers in the country, it has been set up a public

limited company, owned by the leading institutional investors in the country. *rom day one, 7(E

has adopted the form of a demutualised e"change the ownership, management and trading is in

the hands of three different sets of people.7(E is owned by a set of leading financial institutions,

banks, insurance companies and other financial intermediaries and is managed by professionals,who do not directly or indirectly trade on the E"change. This has completely eliminated any

conflict of interest and helped 7(E in aggressively pursuing policies and practices within a public

interest framework. The 7(E model however, does not preclude, but in fact accommodates

involvement, support and contribution of trading members in a variety of ways. Its )oard

companies of senior e"ecutives from promoter institutions, eminent professionals in the fields of

law, economics, accountancy ,finance, ta"ation, etc, public representatives, nominees of (E)I

While the )oard deals with broad policy issues, decisions relating to market operations are

delegated by the )oard to various committees constituted by it. (uch committee includesrepresentatives from trading members, professionals, the public and management. The day!to!day

management of the E"change is delegated to the Managing irector who is supported by a team

of professional.

Committees:

The E"change has constituted various committees to advise it on areas such as good

market practices, settlement procedures, risk containment systems etc.Industry professionals

manage these committees, trading members, E"change staff as also representatives from themarket regulator.

• E"ecutive 2ommittee

• 2ommittee 1n Trade 0elated Issues321TI4

SECURITITIES AND EXCHAN0E -OARD O) INDIA

SE-I<S RO"E IN A STOC# EXCHAN0E

The (E)I was established on pril +5, +BBH through an administrative order, but it

became a statutory and really powerful organization only since +BB5.The (E)I is under the

overall control of the Ministry of *inance, and has its head office at Mumbai.

The philosophy underlying the certain of the (E)I is that multiple regulatory bodies for securities

industry mean that the regulatory system gets dividend, causing confusion among market

participants as to who is really in command. In a multiple regulatory structure, there is also an

+H



overlap of functions of different regulatory bodies .Through the (E)I, the regulation model

which is sought to be put in place in India is one in which every aspect of securities market

regulation is entrusted to a single highly visible and independent organization, which is backed by

a statute, and which is accountable to the parliament and in which investors can have trust.

!O,ER= SCO!E= AND )UNCTIONS O) SE-I:

The scope of operations of the (E)I is very wide it can frame or issue rules,

regulations, directives, guidelines, norms in respect of both primary and secondary markets, and

certain financial institutions.

The (E)I is empowered to register any agency or intermediary who may be associated

with the securities market and none of them shall by, sell or deal in securities e"cept under and in

accordance with the conditions of certificate of registration issued by the (E)I.

The (E)I can suspend or cancel a certificate of registration issued by it to anyone after

giving him a reasonable opportunity of being heard.

Dowever, in e"ercise of its powers and in performing its functions, such directions on

#uestions of policy bind the (E)I as the 61I may give in writing from time to time. lthough it

has the opportunity to e"press its views before any direction is given, the decision of the 61I is

final in every case.

+B



COM!ANY !RO)I"E:

>EN SECURITIES "TD:

Pen (ecurities imited 3P(4 is one of the leading financial services company

!providing *inancial and Investment related (ervices and ;roducts. The 2ompany commenced as

a proprietary concern of M$s <. 0avindra )abu in +BH was converted to a imited company in

*ebruary +BBF as Pen (ecurities td. Pen has the distinction of being the *irst 2orporate Memberfrom Dyderabad and also the first .;. based broking firm to start trading on the 7ational (tock

E"change 37(E4. PE7 is a registered Member on the 2apital Market (egment and *utures K

1ptions segment of both 7(E and )(E.

PE7 is also a epository ;articipant 3;4 with 7ational (ecurities epository td.

37(4 and also with 2entral epositories (ervices td. 32(4. PE7 is also a (E)I 0egistered

;ortfolio Manager offering ;ortfolio Management (ervices to clients.

In 5B!>H!5>>H Pen (ecurities lanches brand name as PE7 M17EQ T.

>e+ Comtra&e !t2 "imite&:

+>>O subsidiary of P( and is a member of 7ational 2ommodities K erivatives

E"change imited 372ER4 and Multi 2ommodity E"change 3M2R4. PE7 operates from

Dyderabad as it head office and has branches and associates in ndhra ;radesh, Tamil 7adu,

Maharashtra, <arnataka, West )engal and 1rissa. The 2ompany operates from over +A>

locations with over F>> trading terminals.

Seri$es Offere& (y >e+ Se$%rities "imite&:

• Investment advisory services• Trading in cash market of 7(E and )(E

• Trading in *utures and 1ptions on 7(E and )(E

• Internet Trading in (tocks, futures and 1ptions both 7(E and )(E

• Mutual *unds advisory service

• epository (ervices in )oth 7( and 2(

5>



• Trading in 2ommodities on M2R and 72ER

• ;ortfolio Management (ervices

• 70I Investor (ervices

• ;7 pplication (ervice

• Mutual *und <Q2 0egistration (ervice

*i"ed Income (ecurities $ *i"ed eposits $ 0)I )onds $ Ta" (aving )onds

)OUNDER -

(hri 0avindra )abu <antheti founded Pen (ecurities td as a stock broking company and led its

evolution into a highly respectable financial services company known for its ethics and values.

De passionately believed that one can be successful in business without compromising on ethics.

Thru Pen he demonstrated this philosophy and inspired every one of us by setting an e"ample.

Dis ethical, transparent and trustworthy approach to business has inspired all of us to build a very

vibrant, successful and strong organization.

We at Pen totally rededicate ourselves to continue to build the organization on sound foundations

of trust, values and relationship with clients, servicing their investment needs as set out by ourfounder (ri <.0avindra )abu.

The board of directors of Pen (ecurities td has appointed Mr ;ratap <antheti and Mr (atish

<antheti as Managing irector and =oint Managing irector, respectively, of the company. The

board at its meeting on +!>A!5>>H e"pressed sorrow at the sudden demise of Mr <. 0avindra

)abu, *ounder Managing irector of Pen (ecurities td. )oth Mr ;ratap and Mr (atish have

been working with Pen (ecurities as irectors for over a decade.

-OARD O) DIRECTORS:

irectors of Pen (ecurities td. have considerable e"perience and e"pertise ranging over many

industries such as financial services, pharmaceuticals, manufacturing, banking and Information

Technology among others. They are some of the most highly respected people in their

professional circles.

5+





Mr2 #2Ve+.at Re&&y= Dire$tor

Mr. <.?enkat 0eddy is a chemical engineer. De worked in reputed industrial houses in ;aper K

;ower sectors for + years and in financial markets for +> years. De has e"tensive e"perience in

the areas of pro:ect management and strategic management..

Mr2 #2 Narasim3a Rao= Dire$tor

Mr. <. 7arasimha 0ao is a ;ost 6raduate in iterature. De is the 2hief gent of .;. I2 Mutual

*und since =une 5>>5. De is an I2 agent since +BH> and has e"tensive knowledge about the

securities and insurance markets.

Mr2 Namas3iaya Re+%.%+tla= Dire$tor a+& Hea& of Complia+$e

Mr. 7amashivaya 0enukuntla has vast e"perience in the field of stock broking and has a deep

understanding of the regulatory framework of the 2apital Markets. De heads the 2ommodity

)roking business of the 2ompany. De holds a bachelors degree in 2ivil Engineering and a

Masters in )usiness dministration 3M).4

SERVICES:

Sto$. -ro.i+'

Pen (ecurities imited provides the following e#uity related trading services to the investors-

o 2apital Market (egment of 7(E and )(E

o *utures K 1ptions segment of 7(E and )(E

PE7 operates from Dyderabad as it head office and has branches and associates in ndhra

;radesh, Tamil 7adu, Maharashtra, <arnataka, West )engal and 1rissa. The 2ompany operates

from over +A> locations with over F>> trading terminals.

I+ter+et Tra&i+':

Internet trading is easy, convenient and reliable with PenTrSde

dvantages of PenTrSde ! Internet Trading ;latform

)lexi(le a+& a&a+$e& tra&i+' platform

5@



(imple, reliable and easy to use

*utures K 1ptions segment of 7(E and )(E

Integrated payment gateways ' facilitates online transfer of funds from your banks 3I2I2I

$"is$2orp $ Qes bank etc.4 for instant limits 3on funds transferred4

Integrated with Pen ; account ' seamless settlement Take full control of trading and trade with privacy from any place of your choice.

2hoice of Trading from Internet or )ranch

2hoice of )rowser based or ERE based trading

Mar.et *at$3

(treaming market #uotes

Multiple market watch

Integrated market watch for viewing 7(E $ )(E $ 7(E *1 on one screen

ccess to trade in 7(E $ )(E and 7(E *1 (egments

INTRADAY a+& DE"IVERY &iffere+tiatio+

ifferent limits for I7T0Q and EI?E0Q

uto s#uare off of all I7T0Q orders +F minutes before close of trading

2onvert I7T0Q trades to EI?E0Q trades on availability of credit$margin source

A$$ess to stateme+ts

(tock (tatements ! ?iew (tocks in your ; account and also Pen )enf account

(tatements ' ?iew 2ash available in your Pen )roking account

Mutual *unds ' ?iew Transaction$Dolding statements with atest 7?/s

7et worth (tatement ! 7et worth statement of assets with Pen, 3(tocks2ashMutual

funds4.

M%t%al )%+&s:

>EN<S MUTUA" )UND SERVICES 4 HI0H"I0HTS

5A





Or'a+i7atio+ of a M%t%al )%+&

There are many entities involved and the diagram below illustrates the organizational

set- up of a mutual fund.

ADVANTA0ES O) INVESTIN0 IN MUTUA" )UNDS

!rofessio+al Mo+ey Ma+a'eme+t 9 Resear$3

Mutual funds are managed by professional fund managers who regularly monitor market

trends and economic trends for taking investment decisions. They also have dedicated research

professionals working with them who make an in depth study of the investment option to take an

informed decision.

Ris. Diersifi$atio+ iversification reduces risk contained in a portfolio by spreading it. It is about not putting

all your eggs in one basket. s mutual funds have huge corpuses to invest in, one can be part of a

large and well!diversified portfolio with very little investment.

Co+e+ie+$e

With features like dematerialized account statements, easy subscription and redemption

processes, availability of 7?s and performance details through :ournals, newspapers and

updates and lot more Mutual funds are sure a convenient way of investing.

"iB%i&ity 1ne of the greatest advantages of Mutual funds investment is li#uidity. 1pen!ended

funds provide option to redeem on demand, which is e"tremely beneficial especially during rising

or falling Markets.

Re&%$tio+ i+ Costs

5



Mutual funds have a pool of money that they have to invest. (o they are often involved

in buying and selling of large amounts of securities that will cost much lower than when you

invest on your own.

Tax A&a+ta'es

Investment in mutual funds also en:oys several ta" advantages. ividends from Mutual

*unds are ta"!free in the hands of the investor 3This however depends upon changes in *inance

ct4. lso 2apital 6ain accrued from Mutual *und investment for a period of over one year is

treated as long term capital appreciation and is ta" free.

Ot3er A&a+ta'es

Indian Mutual fund industry also presents several other benefits to the investor like-

transparency ! as funds have to make full disclosure of investments on a periodic basis, fle"ibility

in terms of needs based choices, very well regulated by (E)I with very strict compliance

re#uirements to investor friendly norms.

DE!OSITORY SERVICES:

DE!OSITORY:

Pen is a depository participant offering fle"ible, cost effective and transparent

depository services to its clients .Pen is a depository participant with the 7ational (ecurities

epository imited and 2entral epository (ervices 3India4 imited for trading and settlement of

dematerialized shares. Pen performs clearing services for all securities transactions through its

accounts. Pen offers depository services to create a seamless transaction platform ' e"ecute

trades through Pen (ecurities and settle these transactions through the Pen epository (ervices.

Pen epository (ervices is a part of our value added services for our clients that creates multiple

interfaces with the client and provides for a solution that takes care of all your needs

-asi$ Seri$es !roi&e& (y >e+ D!

• ccount 1pening

• ccount Transfers ! Market and 1ff!Market• ematerialization

• 0e!materialization

• ;ledge

)EATURES:

5C





(tatutory$ 0egulatory uthorities,

;ublic (ector 9ndertakings,

(cheduled 2ommercial )anks,

;ublic *inancial Institutions,

2olleges affiliated to 9niversities, ;rofessional )odies such as I2I, I2WI, and I2(I, )ar 2ouncil etc. to

their Members

2redit cards$ebit cards issued by )anks.

!roof of A&&ress ?a+y o+e of t3e (elo* me+tio+e&@

o 0ation card, ;assport, ?oter I 2ard, riving license, )ank passbook,

o ?erified copies of Electricity bills 37ot more than two months old4$ 0esidence

Telephone bills 3not more than two months old4.

o icense agreement $ greement for sale, (elf!declaration by Digh 2ourt K

(upreme 2ourt :udges, giving the new address in respect of their own accounts.

o ;roof of Identity cum ddress form 3ttested by a scheduled commercial )ank

Manager4

o Identity card$document with address, issued by

2entral$(tate 6overnment and its epartments.

(tatutory$0egulatory uthorities. ;ublic (ector 9nder takings.

(cheduled 2ommercial )anks.

;ublic *inancial Institutions.

2olleges affiliated to universities and

;rofessional )odies such as I2I, I2WI, )ar 2ouncil etc., to their

Members.

7omination form 3If re#uired4

Note:

If the 2urrent ddress is same as in ;assport $ ?oterUs I card $ riving license $ M;I7 2ard

then ;roof of ddress not re#uired.

5B



52 COR!ORATE ACCOUNTS

• uly filled 3in block letters4 emat ccount 1pening *orm K epository 2lient

greement.

• copy of

• 2ertificate of Incorporation,

• 2ertificate of 2ommencement of )usiness

• Memorandum and rticles of ssociation.

• )oard 0esolution for opening of the emat ccount and authorising the authorised

signatories to operate the emat account.

• copy of )ank ;ass )ook.

• uthorised (ignatory ;hotos, 2ompany 2ommon seal on resolution.

!ool A$$o%+ts:

7(E ;ool $c

2M $ 2lient Id- +>>>>@A

2M $ 2lient 7ame-Pen (ecurities td.

2M!);!Id- I7F5@>H

; Id- I7@>5H@; 7ame-

Pen (ecurities td.

)(E ;ool $c

2M $ 2lient Id- +>>>FCB

2M $ 2lient 7ame-Pen (ecurities td.

2M!);!Id- I7>B5FF

; Id- I7@>5H@

; 7ame- Pen (ecurities td.

* K 1 )enf. $c2lient Id- +>>>>++

@>



2lient 7ame-Pen (ecurities td.

; Id- I7@>5H@

; 7ame-Pen (ecurities td.

"ITERATURE SURVEY

DERIVATIVES:4

The emergence of the market for derivatives products, most notably forwards, futures and options,

can be tracked back to the willingness of risk!averse economic agents to guard themselves against uncertainties

arising out of fluctuations in asset prices. )y their very nature, the financial markets are marked by a very high

degree of volatility. Through the use of derivative products, it is possible to partially or fully transfer price risks

by locking!in asset prices. s instruments of risk management, these generally do not influence the fluctuations

in the underlying asset prices. Dowever, by locking!in asset prices, derivative product minimizes the impact of

fluctuations in asset prices on the profitability and cash flow situation of risk!averse investors.

erivatives are risk management instruments, which derive their value from an underlying asset. The

underlying asset can be bullion, inde", share, bonds, currency, interest, etc.. )anks, (ecurities firms, companies

and investors to hedge risks, to gain access to cheaper money and to make profit, use derivatives. erivatives are

likely to grow even at a faster rate in future.

INTRODUCTION TO )UTURES CONTRACTS:

In the erivatives market *utures contract is most actively traded contract. It has gained its

momentum in recent years, after forwards contract were banned in some parts of the world. It is one of

the most popular types of contracts for the traders in the world.

)UTURES CONTRACT:

*utures contract was designed to solve limitations that e"isted in forward contracts. *utures

contract is an agreement between two parties to buy or sell an asset at a certain time in future at a certain

price. To make it simple *utures are e"change!traded contracts to buy or sell an asset in future at a price

agreed upon today. The asset can be share, inde", interest rate, bond, rupee!dollar e"change rate, sugar,

crude oil, soybean, cotton, coffee etc.

@+



To facilitate li#uidity in the futures contract, the e"change specifies certain standard features of

the contract. It is a standardized contract with standard underlying instrument.

The following are the (tandard terms in any *utures contract-

8uantity of the underlying asset

8uality of the underlying asset 3not re#uired in case of financial futures4

E"piration date

The unit of price #uotation 3not the price4

Minimum fluctuation in price 3tick size4

(ettlement style

Example-when you are dealing in March 5>>5 (atyam futures contract, you know that the market lot,

i.e. the minimum #uantity you can buy or sell, is +,5>> shares of (atyam, the contract would e"piry on

March 5H, 5>>5, the price is #uoted per share, the tick size is F paisa per share or 3+5>>V>.>F4 0s > per

contract$ market lot, the contract would be settled in cash and the closing price in the cash market on

e"piry date would be the settlement price.

TERMINO"O0Y USED IN )UTURES MAR#ET:

The terminologies used in futures market are as follows-

S!OT !RICE-

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

)UTURE !RICE-

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

CONTRACT CYC"E-

The period over which a contract trades.

-ASIS -

@5



It is the difference between future price and the spot price. ;opularly termed as spread among the trading

community.

INITIA" MAR0IN:

The amount deposited in the margin account, when the future contract is first entered.

MAR#IN0 TO MAR#ET-

In the futures market, at the end of each trading day, the margin account is ad:usted to reflect

the investors gain or loss depending upon the futures closing price. This is called as marking to market.

MAINTENANCE MAR0IN-

It is the minimum margin the investor has to keep in his account, so that it never shows negative

balance.

!RICIN0 )UTURES THEORYTICA"Y:

The theoretical price of a futures contract is spot price of the underlying plus the cost of carry.

;lease note that futures are not about predicting future prices of the underlying assets.

In general, )%t%res !ri$e Spot !ri$e Cost of Carry

The 2ost of 2arry is the sum of all costs incurred if a similar position is taken in cash market and

carried to e"piry of the futures contract less any revenue that may arise out of holding the asset. The cost

typically includes interest cost in case of financial futures 3insurance and storage costs are also considered

in case of commodity futures4. 0evenue may be in the form of dividend. Though one can calculate the

theoretical price, the actual price may vary depending upon the demand and supply of the underlying

asset.

Example-

(uppose 0eliance shares are #uoting at 0s @>> in the cash market. The interest rate is about

+5O per annum. The cost of carry for one month would be about 0s @. s such a 0eliance future contract

with one!month maturity should #uote at nearly 0s@>@. (imilarly 7ifty level in the cash market is about

++>>. 1ne month 7ifty future should #uote at about ++++. Dowever it has been observed on several

occasions that futures #uote at a discount or premium to their theoretical price, meaning below or above

the theoretical price. This is due to demand!supply pressures. Every time a (tock *uture trades over and

above its cost of carry i.e. above 0s. the arbitragers would step in and reduce the e"tra premium

@@



commanded by the future due to demand. E.g.- would buy in the cash market and sell the e#ual amount in

the future, Dence creating a risk free arbitrage, vice!versa for the discount.

When the future contract approaches e"piry date, the cost of carry reduces as the time to e"piry

reduces thus futures and cash prices start converging. 1n e"piry date, futures price should e#ual cashmarket price.

Settleme+t i+ )%t%res mar.ets:

;resently both stock and inde" futures are settled in cash. The closing price in the cash segment is

considered as the settlement price. The difference between the trade price and the settlement price is

ultimately your profit$loss.

In case of delivery based settlement (tock!based derivatives are e"pected to be settled in delivery.

1n e"piry of the futures contract, the buyer$seller of the future would receive a long$short position at the

closing price in the cash segment on the ne"t trading day. This position in the cash segment would merge

with any other position the buyer$seller has. In case the buyer$seller wants he can s#uare up this position

by selling$buying the shares. 1r else he would be re#uired to deliver$receive the underlying shares on thesettlement day 3e.g. T54 in the cash segment.

The aforesaid methodology is not final yet. (ebi guidelines in this regard are awaited. Qou can call

e"changes and me to know the e"act methodology once the regulator. Inde" based erivatives would

continue to be settled in cash

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USA0E of )%t%res $o+tra$ts:

Qou can do directional trading using futures. In case you are bullish on the underlying stock or

inde", you can simply buy futures on stock$inde". (imilarly if you are bearish on the underlying, you can

sell futures on stock$inde".

There are eight basic modes of trading on the inde" futures market-

Dedging

D+ ong stock, short 7ifty futures

D5 (hort stock, long 7ifty futures

D@ Dave portfolio, short 7ifty futures

DA Dave funds, long 7ifty futures

(peculation

(+ )ullish inde", long 7ifty futures

(5 )earish inde", short 7ifty futures

rbitrage

+ Dave funds, lend them to market

5 Dave securities, lend to the market

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A&a+ta'es of tra&i+' i+ I+&ex f%t%res:fter listening to the news and other happenings in the economy, you take a view that the market

would go up. Qou substantiate your view after talking to your near and dear ones. When the market

opens, you e"press your view by buying )2 stock. The whole market goes up as you e"pected but the

price of )2 stock falls due to some bad news related to the company. This means that while your view

was correct, its e"pression was wrong.

9sing 7ifty$(ense" futures you can e"press your view on the market as a whole. In this case you

take only market risk without e"posing yourself to any company specific risk. Though trading on 7ifty or(ense" might not give you a very high return as trading in stock can, yet at the same time your risk is also

limited as inde" movements are smooth, less volatile with unwanted swings.

When trading futures in cash the biggest advantage of futures is that you can short sell without

having stock and you can carry your position for a long time, which is not possible in the cash segment

because of rolling settlement. 2onversely you can buy futures and carry the position for a long time

without taking delivery, unlike in the cash segment where you have to take delivery because of rolling

settlement.

*urther futures positions are leveraged positions, meaning you can take an 0s +>> position by paying 0s

5F margin and daily mark!to!market loss, if any. This can enhance the return on capital deployed. *or

e"ample, you e"pect an 0s +>> stock to go up by 0s +>. 1ne way is to buy the stock in the cash segment

by paying 0s +>>. Qou make 0s +> on investment of 0s +>>, giving about +>O returns. lternatively you

@



take futures position in the stock by paying about 0s @> toward initial and mark!to!market margin. Qou

make 0s +> on investment of 0s @>, i.e. about @@O returns. ;lease note that taking leveraged position is

very risky, you can even lose your full capital in case the price moves against your position. Qou can

s#uare up your future at any time once you have initiated the position, you need not wait until its e"piry

you can book profits or cut losses.

1ne can use volume and open interest rates to predict the movement of the market this is done

like this, the total outstanding position in the market is called open interest. In case volumes are rising and

the open interest is also increasing, it suggests that more and more market participants are keeping their

positions outstanding. This implies that the market participants are e"pecting a big move in the price of

the underlying. Dowever to find in which direction this move would be, one needs to take help of charts.

In case the volumes are sluggish and the open interest is almost constant, it suggests that a lot ofday trading is taking place. This implies sideways price movement in the underlying.

,3e+ Corporate Dii&e+&s are a++o%+$e&:

In the event of such corporate announcements, the e"changes ad:ust the position such that

economical value of your position on cum!benefit and on e"!benefit day is the same. While calculating

the theoretical price of a futures contract, the interest rate should be taken as net of dividend yield. (o on

announcement of the dividend, the futures price should be discounted by the dividend amount. Dowever

as per the policy of (ebi and stock e"changes, if the dividend is more than +>O of the market price of thestock on the day of dividend announcement, the futures price is ad:usted. The e"changes roll over the

positions from last!cum!dividend day to the e"!dividend day by reducing the settlement price by

dividend. In such a case, the announcement of such e"ceptional dividends does affect the price of futures.

(uppose 0eliance is trading at 0s @>> and a two!month 0eliance future which has AF days to

maturity is trading at 0s @>A. 0eliance declares F>O dividend, i.e. 0s F. The dividend amount is less than

+>O of the market price of 0eliance, so the e"change would not ad:ust the position. s such the market

ad:usts this dividend in the market price and the futures price goes down by 0s F to 0s 5BB.In case of )onus the lot size of the stock that gives bonus gets ad:usted according to the ratio of

the bonus. The position is transferred from cum!bonus to e"!bonus day by ad:usting the settlement price

to neutralize the effect of bonus.

)or example:

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sufficient and you will be under hedged. It is very difficult 3in fact impossible4 to get perfect hedge but

one can improve the perfection by ad:usting the position in 7ifty futures from time to time.

Demystifyi+' Sto$. )%t%res

Dere we try to solve some myths about futures

When some li#uid money is available to you and you are trying to buy future stocks for risk free interest.

9sing stock futures you can deploy this money to earn risk!free interest. (uppose (atyam is #uoting at 0s

@>> in the cash segment and one!month future is #uoting at @>F, you can earn risk!free interest by

following the steps mentioned below-

)uy (atyam in cash market at 0s @>> and simultaneously sell (atyam future at 0s @>F.

;ay 0s @>> to take delivery of (atyam stock in cash market.

1n e"piry of (atyam future contract, the short position would be transferred to your account

in the cash segment and a delivery order would be issued against you.

eliver the (atyam stock.

Whatever happens to the price of (atyam, you earn 0s @>F ! @>> F on 0s @>> for one

month.

7eed to have mark!to!mark margins in your account, incase (atyam moves up.

If re#uired the future position can be rolled over to the ne"t month position with a difference of 0s A!F.

This roll!over process can continue till you want to get your money back.

The above e"ample was about how earn risk free interest when li#uid cash is available with you, when

the futures stock is going down in futures market but going up in the cash segment then we can do the

following-

(uppose one!month ()I future is #uoting at 5>> while ()I is #uoting at 0s 5>F in the cash segment.

*ollow the steps mentioned below to make risk!free money.

(ell ()I in the cash market at 0s 5>F and simultaneously buy ()I future at 5>>.

0eceive 0s 5>F and make delivery of ()I stock in the cash market.

1n e"piry of the ()I future contract, the long position would be transferred to your account in thecash segment and a receive order would be issued to you.

6et your ()I stock back.

Whatever happens to the price of ()I, you earn 0s 5>F ' 5>> F on your stock.

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rrow against the future stock and that is the advantage of futures. Instead of going to the banker

and complying with a whole lot of formalities, you can in fact :ust call me to help you raise

money against your shares using futures.

(uppose 22 is #uoting at 0s +F> in the cash segment and one!month 22 futures are #uoting at +F5.

*ollow the steps mentioned below to raise money against your 22 shares.

(ell 22 in the cash market at 0s +F> and simultaneously buy 22 futures at +F5.

0eceive 0s +F> and make delivery of 22 stock in the cash market.

1n e"piry of the 22 futures contract, the long position would be transferred to your account in

the cash segment and a receive order would be issued to you.

6et your 22 stock back.

Whatever happens to the price of 22, you lose 0s +F5 ' +F> 5 to raise money against your

shares as cost.

Qou might have seen that spot price and future price varies in the intra day trading, in that

case you can do arbitrage to raise money in that situations. When the futures are #uoting at a premium to

their theoretical price, one can buy cash and short futures. When the prices come in line, that is when the

difference between the futures and cash prices comes down, reverse the positions. 2onversely when the

futures are #uoting at a discount to the theoretical price, one can sell cash and buy futures. When the

prices come in line, that is the difference between the futures and cash prices goes up, reverse the

positions. This way it is possible to take advantage of fluctuations in the basis. ;lease note that there is the

risk of e"ecution of order. lso you need to decide the arbitration band depending on the transaction cost

you bear.

INTRODUCTION TO O!TIONS MAR#ET:

In this section, we look at the ne"t erivative product to be traded at 7(E, namely 1ptions.

1ptions are fundamentally different from *orward and *utures contracts. n option gives the holder the

right do something the holder does not have to e"ercise this price.

O!TIONS MAR#ET:

1ptions are contracts that give the buyers the right 3but not the obligation4 to buy or sell a

specified #uantity of certain underlying asset at a specified price on or before a specified date. 1n the

other hand, the seller is under obligation to perform the contract 3buy or sell the underlying4. The

A>



underlying asset can be share, inde", interest rate, bond, rupee!dollar e"change rate, sugar, crude oil,

soybean, cotton, coffee etc.

)or example-

railway ticket is an option in daily life. 9sing the ticket, a passenger has an option to travel. In

case he decides not to travel, he can cancel the ticket and get a refund. )ut he has to pay a cancellation

fee, which is analogous to the premium paid in an option contract. The railways on the other hand have an

obligation to carry the passenger if he decides to travel and refund his money if he decides not to travel.

In case the passenger decides to travel the railways get the ticket fare. In case he does not then they get

the cancellation fee. The passenger on the other hand, by booking ticket he has hedged his position in

case he has to travel as anticipated. In case the travel does not materialize, he can get out of the position

by canceling the ticket at a cost, which is the cancellation fee.

Example 5-

(uppose you have a right to buy +,>>> shares of Dindustan ever at 0s 5F> per share on or

before March 5H, 5>>5. In other words you are a buyer of a call option on Dindustan ever. The option

gives you the right to buy +,>>> shares. Qou have the right to buy Dindustan ever shares at 0s5F> per

share. The seller of this call option who has given you the right to buy from him is under obligation to sell

+,>>> shares of Dindustan ever at 0s5F> per share on or before March 5H, 5>>5 whenever asked.

Optio+ Termi+olo'y-

There are some basic terminologies used in options, they are as follows-

Inde" option- These options have the inde" as the underlying. (ome options are European options

while others are merican options. Inde"ed option contracts settled in cash.

Sto$. optio+:

(tock options are options on individual stocks. 1ptions currently traded on more than F>>

stocks in the 9nited (tates. The contract gives the holder the right to buy or sell shares.

Optio+ 3ol&er: )uyer if the option who has the right. Optio+ *riter: (eller of the option who has the obligation.

!remi%m: The consideration paid by the buyer for the right.

Call optio+: 1ption that gives the holder the right to buy.

!%t optio+: The option that gives the holder the right to sell.

A+



Ameri$a+ optio+: These are options that are e"ercised at any point till the e"piration date.

E%ropea+ optio+- These are option that can be e"ercised only on the e"piration date.

I+ t3e mo+ey: It is an option that would lead to profits if it were e"ercised immediately.

O%t of mo+ey: It is an option that would lead to loss if e"ercised immediately.

At t3e mo+ey: It is an option that would even the holder/s option if e"ercised immediately.

Ho* mo+ey is ma&e i+ t3e optio+ mar.et

The money made in the option market is known as option pay off. There can be two

types of option pay off.

2all option

;ut option

Call optio+:

call option gives the holder the right to buy shares. The option holder will make money if

the spot price is higher than the strike price. The pay off assumes that the option holder will buy at the

strike price and sell immediately at the spot price. )ut if the spot price is lower than the strike price the

holder can simply ignore the option. Dere the profits for the option holder are unlimited while the losses

are limited.

Example1-

(uppose you have a right to buy +,>>> shares of Dindustan ever at 0s5F> per share on or before

March 5H, 5>>5. In other words you are a buyer of a call option on Dindustan ever. The option gives

you the right to buy +,>>> shares. Qou have the right to buy Dindustan ever shares at 0s5F> per share.

The seller of this call option who has given you the right to buy from him is under obligation to sell +,>>>

shares of Dindustan ever at 0s5F> per share on or before March 5H, 5>>5 whenever asked.

Example5-

ssume you have the right to buy 5>> 7ifty units at ++>>. In other words, you are a buyer of a call

option on 7ifty. The option gives you the right to buy 5>> 7ifty units. Qou have the right to buy 5>> units

of 7ifty at ++>>. The seller of this call option who has given you the right to buy from him is under

obligation to sell 5>> units of 7ifty.

A5



!%t Optio+:

The put option gives the right to sell. The option holder will make money if the spot price is

lower than the strike price. The pay off assumes that the option holder will buy at spot price and sell at

strike price. )ut if the spot price is higher than the strike price, the option holder will simply ignore the

option, it will be beneficial to sell it in the market. )ut if the spot price falls dramatically then he can

make wind fall profits. Thus the profits of the option holder are unlimited and his losses are capped to the

e"tent of the premium.

Example1-

(uppose you have the right to sell +,>> shares of )harat Deavy Electrical at 0s +A> per share on

or before March 5H, 5>>5. In other words you are a buyer of a put option on )harat Deavy Electrical. The

option gives you the right to sell +,>> shares. Qou have the right to sell )harat Deavy Electrical shares at

0s+A> per share. The seller of this put option who has given you the right to sell to him is under

obligation to buy +,>> shares of )harat Deavy Electricals at 0s+A> per share on or before March 5H,

5>>5 whenever asked.

Example5-

(uppose you have the right to sell 5>> 7ifty units at +5>>. In other words you are a buyer of a put

option on 7ifty. The option gives you the right to sell 5>> 7ifty units. Qou have the right to sell 5>> units

of 7ifty at +5>>. The seller of this call option who has given you the right to sell to him is under

obligation to buy 5>> units of nifty.

1ption contracts have an e"piry date specified by e"changes. The buyer en:oysthe right and

the seller is under obligation to fulfill the right till the option contract e"pires. March 5H, 5>>5 is the

e"piry date in the aforesaid e"ample. 7ormally as per the contract specifications of options given by the

7ational (tock E"change and )ombay (tock E"change, last Thursday of the contract month is the e"piry

day. In case the last Thursday of a month is a holiday, the previous business day is considered as the

e"piry day. Dowever you must check with the dealer about the e"piry date before placing the order for

buying or selling options. There are one!, two! and three!month contracts available presently. It is

e"pected that once these contracts become li#uid, the e"changes would introduce contracts of longer!term

e"piry$maturity.

,3o &e$i&es t3e stri.e pri$e

A@



The e"changes decide the strike price at which call and put options are traded. 6enerally to

simplify matters, the e"changes specify the strike price interval for different levels of underling prices,

meaning the difference between one strike price and the ne"t strike price over and below it.

)or example The strike price interval for )harat Deavy Electricals is 0s+>. This means that there would be

strike prices available with an interval of 0s+>. Typically you can see options on )harat Deavy

Electricals with strike prices of 0s+F>, 0s+>, 0s+C>, 0s+H>, and 0s+B> etc.

Stri.e pri$e i+terals spe$ifie& (y t3e ex$3a+'es:

(trike price intervals specified by the e"changes are as follows-

;rice level of 9nderlying (trike ;rice Interval 3in 0s4

ess than or e#ual to F> 5.F

bove F> to 5F> F.>

bove 5F> to F>> +>.>

bove F>> to +>>> 5>.>

bove +>>> to 5F>> @>.>

bove 5F>> F>.>

Optio+s Mar.et !ro$ess:

2all and put options are traded on!line on the trading screens of the 7ational (tock E"change and

)ombay (tock E"change like any other securities. The price of options is decided between the buyers and

sellers on the trading screens of the e"changes in a transparent manner. Qou can see the best five orders

by price and #uantity. Qou can place market, limit and stop loss order etc. Qou can modify or delete your

pending orders. The whole process is similar to that of trading in shares.

Qou are not compelled to wait till e"piry of the option once you have bought or sold an option. Instead

you can buy an option and s#uare up the position by selling the identical option 3same e"piry and same

strike4 at any time before the

contract e"pires. Qou can sell an option and s#uare up the position by buying an identical option. Qou can

buy first and sell later or you can initiate your position by selling and then buyingXthere is no restriction

on direction. The difference between the selling and buying prices is your profit$loss. The process is

similar to that of trading in shares.

AA



)a$tors affe$ti+' t3e pri$e of optio+:

There are five fundamental factors that affect the price of an option. These are-

+. ;rice of the underlying stock or inde"

5. (trike price$e"ercise price of the option

@. Time to e"piration of the option

A. 0isk!free rate of interest

F. ?olatility of the price of underlying stock or inde"

d:ust the price for dividend e"pected during the term of the option to arrive at fine prices.

2onsider this suppose a stock is trading at 0sC>. There is A>O probability that the stock price would

move to 0sH>. (imilarly the probabilities of the price being 0sB>, 0s+>>, 0s++> and 0s+5> are 5FO,

+FO, +>O and FO respectively. What would be your e"pected return if you were the buyer of a call

option with a strike price of 0s+>>Y If the stock price were to finish at 0sH>, 0sB> and 0s+>>, the calloption would e"pire worthless. If the stock price were to finish at 0s++> or 0s+5>, you would gain 0s+>

and 0s5> respectively. Qour e"pected return from the call would be-

3A>OV>4 35FOV>4 3+FOV>4 3+>OV+>4 3FOV5>4 ++.

This means that you would like to pay anything less than 0s++ for this option to make a profit and the

seller would always like to get anything more than 0s++ for giving you this option.

Settleme+t:

;resently stock options are settled in cash. This means that when the buyer of the option e"ercises

an option, he receives the difference between the spot price and the strike price in cash. The seller of the

option pays this difference. It is e"pected that stock options would be settled by delivery of the underlying

stock. This means that on e"ercise of a call option, a long position of the underlying stock effectively at

the strike price would be transferred in the cash segment in the account of the buyer of the call option

who has the right to buy. n opposite short position at effectively the strike price would be transferred in

the cash segment in the account of the seller of the call option who has obligation to sell. (imilarly on

e"ercise of a put option, a short position in the underlying stock effectively at the strike price would be

transferred in the cash segment in the account of the buyer of the put option who has the right to sell. n

opposite long position at effectively the strike price would be transferred in the cash segment in the

account of the seller of the put option who has the obligation to buy. Dowever guidelines in this regard

are awaited from (E)I. ;lease check the e"act method of delivery!based settlement once the regulator

and e"changes announce it.

AF



Varyi+' time al%e for at4= i+4 a+& o%t4of4t3e4mo+ey optio+s

The following graph shows how the premium of @>!day maturity, 0s5> strike price call option

on 0eliance varies with the movement of the spot price of 0eliance. (tudy the price movement of the

option carefully. Qou would find that the time value is the highest when the spot price is e#ual to the

strike price the option is at the money. s the spot price rises above the strike price, the option becomes

in the money and its intrinsic value increases but its time value decreases. In the same way as the spot

price falls below the strike price, the option becomes out of the money and its intrinsic value becomes

zero while its time value decreases.

!remi%m Varyi+' *it3 t3e !ri$e of t3e Optio+:The buyers of longer maturity options en:oy the right to longer duration and the sellers are sub:ect

to risk of price movement of the underlying during a longer term, since the price of both call and put

options increases as the time to e"piry increases. The following graph shows the prices of +F! and @>!day

maturity, 0s5> strike price call options on 0eliance when the spot price of 0eliance is 0s5>.

A





increases. 2onversely as the option becomes out of the money, the value of delta decreases. In other

words, delta measures the sensitivity of options with respect to change in the price of the underlying.

eep out!of!the!money options are less sensitive in comparison to at!the!money and deep in!the!money

options.

elta is positive for a bullish position 3long call and short put4 as the value of the positionincreases with rise in the price of the underlying. elta is negative for a bearish position 3short call and

long put4 as the value of the position decreases with rise in the price of the underlying.

elta varies from > to + for call options and from '+ to > for put options. (ome people refer to

delta as > to +>> numbers.

The elta is an important piece of information for a option )uyer because it can tell him much of

an option K buyer he can e"pect for short!term moves by the underlying stock. This can help the )uyer of

an option which call $ ;ut option should be bought. The factors that can change the elta of an option are

(tock price, ?olatility and 7umber of days.

THETA of a+ optio+ a+& its Si'+ifi$a+$e:

The theta of an option is an e"tremely significant theoretical number for an option trader. ike the

other 6reek terms you can calculate theta using option calculator.

Theta tells you how much value the option would lose after one day, with all the other parameters

remaining the same.

(uppose the theta of Infosys @>!day call option with a strike price of 0s@, B>> is A.F when Infosys

is #uoting at 0s@,B>>, volatility is F>O and the risk!free interest rate is HO. This means that if the price of

Infosys and the other parameters like volatility remain the same and one day passes, the value of this

option would reduce by 0sA.F.

AH



Theta is always negative for the buyer of an option, as the value of the option goes down each day if his

view is not realized. 2onversely theta is always positive for the seller of an option, as the value of the

position of the seller increases as the value of the option goes down with time. 2onsider options as

depreciating assets because of time decay and appreciating due to

*avorable price movements. If the rate of appreciation is more than that of depreciation hold the option,

else sell it off. *urther, time decay of option premium is very steep near e"piry of the option. The

following graph would make it clearer.

VE0A of a+ Optio+ a+& its Si'+ifi$a+$e-

?ega is also a theoretical number that can be calculated using an option calculator for a given setof values of underlying price, time to e"piry, strike price, volatility and interest rate etc. ?ega indicates

how much the option premium would change for a unit change in annual volatility of the underlying.

(uppose the ?ega of an option is >. and its premium is 0s+F when volatility of the underlying is

@FO. s the volatility increases to @O, the premium of the option would change upward to 0s+F.. ?ega

is positive for a long position 3long call and long put4 and negative for a short position 3short call and

short put4.

(imply put, for the buyer it is advantageous if the volatility increases after he has bought theoption. 1n the other hand, for the seller any increase in volatility is dangerous as the probability of his

option getting in the money increases with any rise in volatility.

(ometimes you might have observed that though seven to ten days have passed after you bought

an option, the underlying price is almost in the same range while the premium of the option has increased.

This clearly indicates that volatility of the underlying might have increased.

AB



0AMMA of a+ optio+ a+& its Si'+ifi$a+$es:

6amma is a sophisticated concept. Qou need patience to understand it, as it is important too. ike

delta, the gamma of an option is a theoretical number. *eeding the price of underlying, risk!free interest

rate, strike price, time to maturity and volatility, the gamma of an option tells you how much the delta of

an option would increase or decrease for a unit change in the price of the underlying. *or e"ample,

assume the gamma of an option is >.>A and its delta is >.F. *or a unit change in the price of the

underlying, the delta of the option would change to >.F >.>A >.FA. The new delta of the option at

changed underlying price is >.FA so the rate of change in the premium has increased.

If I *ere to explai+ i+ ery simple terms-

If delta is velocity, then gamma is acceleration. elta tells you how much the premium would

change gamma changes delta and tells you how much the ne"t premium change would be for a unit price

change in the price of the underlying.

6amma is positive for long positions 3long call and long put4 and negative for short positions

3short call and short put4. 6amma does not matter much for options with long maturity. Dowever for

options with short maturity, gamma is high and the value of the options changes very fast with swings in

the underlying prices.

STRATE0Y IN THE O!TION MAR#ET:

,3e+ -%llis3

When you are very bullish, buy a call option. When you are very bullish on the market as a

whole, buy a call option on indices 37ifty$(ense"4. When you are very bullish on a particular stock, buy a

call option on that stock.

The more bullish you are, the more out of the money 3higher strike price4 should be the option you buy.

7o other position gives you as much leveraged advantage in a rising market with limited downside.

F>



Upsi&e pote+tial:

The price of the option increases as the price of the underlying rises. Qou can book profit by

selling the same option at higher price whenever you think that the underlying price has come to the level

you e"pected. t e"piration the break!even underlying price is the strike price plus premium paid for

buying the option.

Do*+si&e ris.:

Qour loss is limited to the premium you have paid. The ma"imum you can lose is the

premium, if the underlying price is below the strike price at e"piry of the option.

Time &e$ay $3ara$teristi$: 1ptions are wasting assets in the hands of a buyer. s time passes, the value of the position

erodes. If volatility increases, erosion slows down if volatility decreases, erosion hastens.

,3e+ NO Rise

When you firmly believe that the underlying is not going to rise, sell a call option. When you

firmly believe that inde" 37ifty$(ense"4 is not going to rise, sell a call option on inde". When you firmly

believe that a particular stock is not going to rise, sell call option on that stock. (ell out!of!the!money

3higher strike price4 options if you are only somewhat convinced sell at!the!money options if you are

very confident that the underlying would remain at the current level or fall.

F+



Upsi&e pote+tial:

Qour profit is limited to the premium received. t e"piration the break!even is strike price plus premium. Ma"imum profit is realized if the underlying price is below the strike price.

Do*+si&e ris.:

The price of the option increases as the underlying rises. Qou can cut your losses by buying the

same option if you think that your view is going wrong. osses keep on increasing as the underlying rises

and are virtually unlimited. (uch a position must be monitored closely.

Time &e$ay $3ara$teristi$:

1ptions are growing assets in the hands of a seller. s time passes, the value of position increases

as the option loses its time value. Qou get ma"imum profit if the option is at the money.

,3e+ -earis3

When you are very bearish, buy a put option. When you are very bearish on the market as a

whole, buy put option on indices 37ifty$(ense"4. When you are very bearish on a particular stock, buy put

option on that stock. The more bearish you are, the more out of the money 3lower strike price4 should be

the option you buy. 7o other position gives you as much leveraged advantage in a falling market with

limited down side.

F5



Upsi&e pote+tial:

The price of the option increases as the price of the underlying falls. Qou can s#uare up your

position by selling the same option at a higher price whenever you think that the underlying price has

come to the level you e"pected. t e"piration the break!even underlying price is the strike price minus

premium paid for buying the option.

Do*+si&e ris.:

Qour loss is limited to the premium you have paid. The ma"imum you can lose is the premium, ifthe underlying price is above the strike price at e"piry of the option.

Time &e$ay $3ara$teristi$:

1ptions are wasting assets in the hands of a buyer. s time passes, the value of the position

erodes. If the volatility increases, erosion slows if the volatility decreases, erosion hastens.

,3e+ NO )all

When you firmly believe that the underlying is not going to fall, sell a put option. When you

firmly believe that inde" 37ifty$(ense"4 is not going to fall, sell a put option on the inde". When you

firmly believe that a particular stock is not going to fall, sell put option on that stock. (ell out!of!the!

money 3lower strike price4 options if you are only somewhat convinced sell at!the!money options if you

are very confident that the underlying would remain at the current level or rise.

F@





Upsi&e pote+tial: profit is limited.

Calls: ifference between strikes minus initial debit.

!%ts- 7et initial credit. Ma"imum profit if underlying price at e"piry is above the

higher strike.

Do*+si&e ris.: loss is limited.

Calls- net initial debit.

!%ts- ifference between strikes minus initial credit.

Ma"imum loss if the underlying price at e"piry is below the lower strike.

Time &e$ay $3ara$teristi$- time value erosion is not too significant because of balanced position.

Mo&erately -earis3

When you think the underlying inde" or stock will go down somewhat or is at least more

likely to fall than rise, )ear (pread is the best strategy.Strate'y impleme+tatio+:

call option is sold with a lower strike price and another call option is bought with a higher

strike price, producing a net initial credit or a put option is sold with a lower strike price and another put

bought with a higher strike, producing net initial debit.

FF





++!*eb!+5 F5.HF F+.C> +.+F+F!*eb!+5 F5.+F F+.5F >.B>+!*eb!+5 F5.> F5.> >.>>+C!*eb!+5 F5.FF F5.A> >.+F+H!*eb!+5 F5.@F F+.AF >.B>+B!*eb!+5 F+.>> F>.B> >.+>55!*eb!+5 F+.5> F>.@> >.B>5@!*eb!+5 F>.>> AB.@F >.F5A!*eb!+5 AB.F F>.FF !>.B>5F!*eb!+5 F+.+> AB.AF +.F5!*eb!+5 AB.FF AB.F !>.+>5!Mar!+5 F>.+> F5.@F !5.5F@!Mar!+5 F5.F F@.@> !>.FA!Mar!+5 F@.@> [email protected]> !>.A>F!Mar!+5 FA.5F FA.+> >.+FH!Mar!+5 FA.F FA.F >.>>B!Mar!+5 FA.> F@.> +.>>

+>!Mar!+5 [email protected]> [email protected]> >.F>++!Mar!+5 [email protected] [email protected]> >.>F+5!Mar!+5 [email protected]> F+.B> +.@>+F!Mar!+5 F+.F F>.HF >.H>+!Mar!+5 F>.>> F5.+F !5.+F+C!Mar!+5 F5.F> F>.5> 5.@>+H!Mar!+5 F>.F> F>.5> >.@>+B!Mar!+5 F>.@F F>.5> >.+F55!Mar!+5 AB.A> AB.+> >.@>5@!Mar!+5 F>.A> AH.A> 5.>>5F!Mar!+5 AH.@> AH.>> >.@>

Total !A5.F

verage !+.+F0ET907 open price ' closing price

2alculation of 0isk Ret%r+s ?X@ Expe$te& Ret%r+?x@ X4exp?x@ & D5

>.>> !+.+F +.+F +.@55F!FF.>F !+.+F [email protected]> 5B>F.5+>.>> !+.+F +.+F +.@55F5.@F !+.+F @.F> +5.5F!5.F> !+.+F !+.@F +.H55F!+.+F !+.+F >.>> >

@.>> !+.+F A.+F +C.555F>.>> !+.+F +.+F +.@55F+.> !+.+F 5.CF C.F5F+.+F !+.+F 5.@> F.5B>.B> !+.+F 5.>F A.5>5F>.>> !+.+F +.+F +.@55F>.+F !+.+F +.@> +.B>.B> !+.+F 5.>F A.5>5F>.+> !+.+F +.5F +.F5F

FC





INTER!RETATION:

The above table shows *utures 2ontract return K risk associated with the pricemovement of I0 E227 for a month of *ebruary K March 5>+5. It has an averagereturn of !+.+F that is !++F.>> and risk is B.>>+FB.

!%t Optio+

2alculation of 0eturnsDate Stri.e !ri$e Close !ri$e Ret%r+s

+!*eb!+5 F>> 5.AF [email protected]!*eb!+5 F>> [email protected]> AC.+>@!*eb!+5 F>> 5F.>> ACF.>>A!*eb!+5 F>> 5+.CF ACH.5FF!*eb!+5 F>> 5F.AF ACA.FF!*eb!+5 F>> 5.BF AC@.>FH!*eb!+5 F>> 5C.F> AC5.F>

B!*eb!+5 F>> 5C.5> AC5.H>+>!*eb!+5 F>> 5F.C> ACA.@>++!*eb!+5 F>> 5.FF [email protected]+F!*eb!+5 F>> 5.@F [email protected]+!*eb!+5 F>> 5C.A> AC5.>+C!*eb!+5 F>> 5C.@F AC5.F+H!*eb!+5 F>> 5.@> [email protected]>+B!*eb!+5 F>> 5F.H> ACA.5>55!*eb!+5 F>> 5F.+F ACA.HF5@!*eb!+5 F>> 5A.+F ACF.HF5A!*eb!+5 F>> 5F.5> ACA.H>5F!*eb!+5 F>> 5A.@> ACF.C>5!*eb!+5 F>> 5A.> ACF.A>5!Mar!+5 F>> 5C.5> AC5.H>@!Mar!+5 F>> 5H.@> AC+.C>A!Mar!+5 F>> 5H.CF AC+.5FF!Mar!+5 F>> 5H.B> AC+.+>H!Mar!+5 F>> 5B.FF AC>.AFB!Mar!+5 F>> 5H.FF AC+.AF+>!Mar!+5 F>> 5H.@F AC+.F

FB







,ipro )%t%res

2alculations of the 0eturnsDate Ope+ !ri$e Close !ri$e Ret%r+s

+!*eb!+5 @C.C C5.@ !@A.

5!*eb!+5 HB.F FF.+ @A.A@!*eb!+5 +.C C+.CF !+>.>FA!*eb!+5 H.FF [email protected] +F.>FF!*eb!+5 A5.+ A [email protected]!*eb!+5 AF AB !AH!*eb!+5 AF.BF @C.A H.FFB!*eb!+5 A> FA.HF !+A.HF

+>!*eb!+5 C>B.5 A.A 5.H++!*eb!+5 [email protected] FC.C [email protected]+F!*eb!+5 A.B +.AF @.AF+!*eb!+5 >.FF C>.F !+>.++C!*eb!+5 CA.BF C+.@ @.F

+H!*eb!+5 H.+F B.H !+.F+B!*eb!+5 5.FF .A [email protected]!*eb!+5 C5 C>.AF +.FF5@!*eb!+5 B.B CH !H.+5A!*eb!+5 CH.C [email protected] A.B5F!*eb!+5 CA.F C+.C 5.H5!*eb!+5 C5.B CH.@ !F.A5!Mar!+5 CB.H C>>. !5>.H@!Mar!+5 C>@.5 BH.+F F.>FA!Mar!+5 B.HF BA.@F 5.FF!Mar!+5 BH H.@F ++.FH!Mar!+5 B+.C B.H !F.+

B!Mar!+5 C>> C>+.+F !+.+F+>!Mar!+5 C>+ BC.5F @.CF++!Mar!+5 C>+. C+5 !+>.A+5!Mar!+5 C+@.+ C++.A +.C+F!Mar!+5 C++.+F C5C.F !+.F+!Mar!+5 C@> C@>.+ !>.++C!Mar!+5 C@5.+F [email protected] !C.CF+H!Mar!+5 C5+.+F C@5.+F !+++B!Mar!+5 [email protected] C5B.B H.B55!Mar!+5 C5@ C@>.A !C.A5@!Mar!+5 C@5 C55.H B.5

5F!Mar!+5 C55.F C+H.B @.Total 5.BFverage >.>CBC@

0ET907 opening price ' closing price

2alculation of 0isk 0eturns3R4 E"pected 0eturn 3"4 R!e"p3"4 5

!@A. >.>CBC@ [email protected]@ +5>5.H

5





INTER!RETATION:

The above table shows *utures 2ontract return K risk associated with the pricemovement of WI;01 for a month of *ebruary K March 5>+5. It has an average return of>.>CBC@ that is C.BC@ and risk is +F.@A.

!%t Optio+s

2alculation of 0eturnsate (trike ;rice 2lose ;rice 0eturns

+!*eb!+5 F>> 5@+.F> 5H.F>

5!*eb!+5 F>> 5+.A> 5H@.>@!*eb!+5 F>> [email protected] 5F.@FA!*eb!+5 F>> 5+H.5F 5H+.CFF!*eb!+5 F>> 5>C.+F 5B5.HF!*eb!+5 F>> 5+>.BF 5HB.>FH!*eb!+5 F>> +BB.>F @>>.BFB!*eb!+5 F>> 5+C.>> 5H@.>>+>!*eb!+5 F>> 5+>.@> 5HB.C>

A



++!*eb!+5 F>> 5+H.5> 5H+.H>+F!*eb!+5 F>> 555.+F 5CC.HF+!*eb!+5 F>> 5@5.+F 5C.HF+C!*eb!+5 F>> 5@@.F> 5.F>+H!*eb!+5 F>> 55B.B> 5C>.+>+B!*eb!+5 F>> 55C.H> 5C5.5>55!*eb!+5 F>> 5@>.>> 5C>.>>5@!*eb!+5 F>> [email protected] 55.+F5A!*eb!+5 F>> 5@@.F 5.@F5F!*eb!+5 F>> 5@>.H> 5B.5>5!*eb!+5 F>> [email protected]> 5+.+>5!Mar!+5 F>> 5A5.F> 5FC.F>@!Mar!+5 F>> 5FB.F 5A>.@FA!Mar!+5 F>> 5FA.HF 5AF.+FF!Mar!+5 F>> 5F.BF 5A@.>FH!Mar!+5 F>> 5FH.> 5A+.A>B!Mar!+5 F>> 55.BF 5@C.>F

+>!Mar!+5 F>> 5FC.5> 5A5.H>++!Mar!+5 F>> 5C>.5F 55B.CF+5!Mar!+5 F>> 5C>.HF 55B.+F+F!Mar!+5 F>> 5HB.5F 5+>.CF+!Mar!+5 F>> 5HH.5F 5++.CF+C!Mar!+5 F>> 5BB.> 5>>.A>+H!Mar!+5 F>> 5HB.A> 5+>.>+B!Mar!+5 F>> 5H.B> 5+@.+>55!Mar!+5 F>> 5HH.5> 5++.H>5@!Mar!+5 F>> 5H>.A> 5+B.>5F!Mar!+5 F>> [email protected] [email protected]

Total BA5C.@>

verage 5FA.CB

0ET907 strike price ' closing price2alculation of 0isk

Ret%r+s?X@ Expe$te& Ret%r+ ?x@ X4Exp?x@D D5

5H.F 5FA.CB [email protected]+ +HC.B5H@. 5FA.CB 5H.H+ H@>.>5

5F.@F 5FA.CB +>.F +++.F+5H+.CF 5FA.CB 5.B C5.HA5B5.HF 5FA.CB @H.> +AAH.F5HB.>F 5FA.CB @A.5 [email protected]

@>>.BF 5FA.CB A.+ 5+@>.CF5H@ 5FA.CB 5H.5+ CBF.H>5HB.C 5FA.CB @A.B+ +5+H.C+5H+.H 5FA.CB 5C.>+ C5B.FA

5CC.HF 5FA.CB 5@.> F@+.C5C.HF 5FA.CB +@.> +C>.F5.F 5FA.CB ++.C+ +@C.+55C>.+ 5FA.CB +F.@+ [email protected]>5C5.5 5FA.CB +C.A+ @>@.++

F



5C> 5FA.CB +F.5+ 5@+.@A55.+F 5FA.CB C.@ FA.+C5.@F 5FA.CB ++.F +@@[email protected] 5FA.CB +A.A+ 5>C.F5+.+ 5FA.CB .@+ @B.H55FC.F 5FA.CB 5.C+ C.@A

5A>.@F 5FA.CB !+A.AA 5>H.F+5AF.+F 5FA.CB !B.A B5.B@5A@.>F 5FA.CB !++.CA [email protected]@5A+.A 5FA.CB !+@.@B +CB.5B

5@C.>F 5FA.CB !+C.CA @+A.C+5A5.H 5FA.CB !++.BB [email protected]

55B.CF 5FA.CB !5F.>A 5C.>>55B.+F 5FA.CB !5F.A FC.A+5+>.CF 5FA.CB !AA.>A [email protected]++.CF 5FA.CB !A@.>A +HF5.AA5>>.A 5FA.CB !FA.@B 5BFH.5C

5+>. 5FA.CB !AA.+B +BF5.C5+@.+ 5FA.CB !A+.B +C@H.>5++.H 5FA.CB !A5.BB +HAH.+A5+B. 5FA.CB !@F.+B +5@H.@A

[email protected] 5FA.CB H.A C+.FCtotal [email protected]

(.. 3Z4 [\d5$7

(.. 3Z4 5C.+BF



INTER!RETATION:

The above table shows put option contract return K risk associated with the pricemovement of I0 E227 for a month of *ebruary K March 5>+5. It has an averagereturn of 5FA.CB that is 5FACB.>> and risk is 5C.+BF.

-3arat3i Airtel )%t%resCo+tra$t

2alculations of 0eturnsDate Ope+ pri$e Close pri$e Ret%r+s

+!*eb!+5 @>C.>> @+5.AF !F.AF5!*eb!+5 @+A.H> @>C. C.5>@!*eb!+5 @>B.> @>B. >.>>A!*eb!+5 @>C.BF @>5.CF F.5>F!*eb!+5 5BF.>> @>>.@ !F.@>!*eb!+5 @>+.BF @>+.+F >.H>H!*eb!+5 5BB.>> @>B.+F !+>.+F

B!*eb!+5 @>C.HF @+A.+ !.5F+>!*eb!+5 @[email protected]> @+A.C !+.5>++!*eb!+5 @+>.HF @[email protected] !5.F+F!*eb!+5 @+A.>> 5H.A 5C.>+!*eb!+5 5HC.C> 5C@.@F +A.@F+C!*eb!+5 5CA.+> 5CB.@F !F.5F+H!*eb!+5 5H>.HF 5H+.CF !>.B>+B!*eb!+5 5CH.@> 5CB.5 !>.B>55!*eb!+5 5H+.F> 5CC.A A.+>5@!*eb!+5 5C.+> 5H>.AF !A.@F5A!*eb!+5 5H>.>> 5CF.HF A.+F5F!*eb!+5 5C.>> 5CC.5 !+.5>5!*eb!+5 5CH.+> 5CB.FF !+.AF5!Mar!+5 5H5.A> 5B>.@ !C.B>@!Mar!+5 5B5.>> 5B+.CF >.5FA!Mar!+5 5B5.>> [email protected] !+.FF!Mar!+5 5BA.C> 5BH.+F [email protected]!Mar!+5 @>+.>> 5B+.BF B.>FB!Mar!+5 5B5.5> 5B>.F +.C>+>!Mar!+5 5B+.>> 5HH.FF 5.AF

C



++!Mar!+5 5@+.AF 5BA.FF !@.+>+5!Mar!+5 5BF.A> 5BH.+ !5.C>+F!Mar!+5 5BB.@F 5BH.HF >.F>+!Mar!+5 5BH.+F 5BF.@F 5.H>+C!Mar!+5 5B.H> 5BH.B !5.+>+H!Mar!+5 5BB.F> @>>.HF !+.@F+B!Mar!+5 @>+.+> @+@.>F !++.BF55!Mar!+5 @>.+> @+.>F !B.BF5@!Mar!+5 @+F.>> @>C.AF C.FF5F!Mar!+5 @>A.C> @+A.A !B.C>

Total !C+.5>verage !+.B5

0ET907 open price ' closing price

2alculation of 0isk 0eturns3R4 E"pected 0eturn3"4 R!E"p3"4 5

!F.AF !+.B5 [email protected]@ +5.A>B

C.5> !+.B5 B.+5 H@.+CAA>.>> !+.B5 +.B5 @.HAF.5> !+.B5 C.+5 F>.BAA!F.@> !+.B5 !@.@H ++.A5AA>.H> !+.B5 5.C5 C.@BHA

!+>.+F !+.B5 !H.5@ C.C@5B!.5F !+.B5 !A.@@ +H.CAHB!+.5> !+.B5 >.C5 >.F+HA!5.F !+.B5 !>.C@ >.F@5B5C.> !+.B5 5B.F5 HC+.A@>A+A.@F !+.B5 +.5C 5A.C+5B!F.5F !+.B5 !@.@@ ++.>HHB!>.B> !+.B5 +.>5 +.>A>A!>.B> !+.B5 +.>5 +.>A>AA.+> !+.B5 .>5 @.5A>A!A.@F !+.B5 !5.A@ F.B>ABA.+F !+.B5 .>C @.HAAB!+.5> !+.B5 >.C5 >.F+HA!+.AF !+.B5 >.AC >.55>B!C.B> !+.B5 !F.BH @F.C>A>.5F !+.B5 5.+C A.C>HB!+.F !+.B5 >.5C >.>[email protected] !+.B5 !+.F@ 5.@A>B

B.>F !+.B5 +>.BC +5>.@A>B+.C> !+.B5 @.5 +@.+>AA5.AF !+.B5 A.@C +B.>BB

!@.+> !+.B5 !+.+H @CA5.BB5!5.C> !+.B5 !>.CH >.>HA>.F> !+.B5 5.A5 F.HFA5.H> !+.B5 A.C5 55.5CHA!5.+> !+.B5 !>.+H >.>@5A!+.@F !+.B5 >.FC >.@5AB

H



!++.BF !+.B5 !+>.>@ +>>.>>B!B.BF !+.B5 !H.>@ A.AH>BC.FF !+.B5 B.AC HB.H>B!B.C> !+.B5 !C.CH >.F5HA

Total FCH.55A

(.. 3Z4 [\d5$7

(.. 3Z4 5C.+BF

INTER!RETATION:

The above table shows *utures 2ontract return K risk associated with the pricemovement of )D0TDI I0TE for a month of *ebruary K March 5>+5. It has anaverage return of !+.B5 that is !+B5.>> and risk is 5C.+BF.

B



!%t Optio+s

2alculation of the 0eturnate (trike ;rice close ;rice 0eturns

+!*eb!+5 F>> ++5.FF @HC.AF

5!*eb!+5 F>> +>H.BF @B+.>F@!*eb!+5 F>> ++>.@> @HB.C>A!*eb!+5 F>> +>F.@F @BA.FF!*eb!+5 F>> +>+.@> @BH.C>!*eb!+5 F>> +>+.> @BH.A>H!*eb!+5 F>> +>B.FF @B>.AFB!*eb!+5 F>> ++A.@F @HF.F+>!*eb!+5 F>> ++.AF @[email protected]++!*eb!+5 F>> ++F.> @HA.A>+F!*eb!+5 F>> HC.>> A+@.>>+!*eb!+5 F>> B5.C> A>C.@>+C!*eb!+5 F>> +>>.+F @BB.HF

+H!*eb!+5 F>> +>5.H> @BC.5>+B!*eb!+5 F>> BB.C> A>>.@>55!*eb!+5 F>> BC.C> A>5.@>5@!*eb!+5 F>> +>>.CF @BB.5F5A!*eb!+5 F>> B.FF A>@.AF5F!*eb!+5 F>> B.HF A>@.+F5!*eb!+5 F>> BB.BF A>>.>F5!Mar!+5 F>> ++>.C> @HB.@>@!Mar!+5 F>> ++5.AF @HC.FFA!Mar!+5 F>> ++A.>F @HF.BFF!Mar!+5 F>> ++H.B> @H+.+>H!Mar!+5 F>> ++A.>> @H.>>

B!Mar!+5 F>> +++.C> @HH.@>+>!Mar!+5 F>> +>H.A> @B+.>++!Mar!+5 F>> ++A.@> @HF.C>+5!Mar!+5 F>> ++B.AF @H>.FF+F!Mar!+5 F>> ++B.CF @H>.5F+!Mar!+5 F>> ++F.>F @HA.BF+C!Mar!+5 F>> ++H.5F @H+.CF+H!Mar!+5 F>> +5>.@ @CB.@C+B!Mar!+5 F>> +@5.>F @C.BF55!Mar!+5 F>> [email protected] @@.FF5@!Mar!+5 F>> +5C.C> @C5.@>

5F!Mar!+5 F>> CH.> A5+.A>Total +AAFC.A5verage @B>.CA

0ET907 strike price ' closing price2alculation of 0isk

C>



(.. 3Z4 [\d5$7(.. 3Z4 ++.C

0eturns3R4 E"pected 0eturn3"4 R!E"p3"4 [email protected] @B>.CA [email protected] +>.H5@B+.>F @B>.CA >.@+ >.+>@HB.C> @B>.CA !+.>A +.>[email protected] @B>.CA @.B+ +F.5B

@BH.C> @B>.CA C.B @.@@BH.A> @B>.CA C. FH.H@B>.AF @B>.CA !>.5B >.>[email protected] @B>.CA !F.>B 5F.B+@[email protected] @B>.CA !C.+B F+.C>@HA.A> @B>.CA !.@A A>.5>A+@.>> @B>.CA 55.5 ABF.F+A>C.@> @B>.CA +.F 5CA.5@@BB.HF @B>.CA B.++ [email protected]> @B>.CA .A A+.C@

A>>.@> @B>.CA B.F B+.@BA>5.@> @B>.CA ++.F +@@.@@BB.5F @B>.CA H.F+ C5.A5A>@.AF @B>.CA +5.C+ ++.FAA>@.+F @B>.CA +5.A+ +FA.>+A>>.>F @B>.CA B.@+ H.H@HB.@> @B>.CA !+.AA 5.>[email protected] @B>.CA !@.+B +>[email protected] @B>.CA !A.CB 55.BA@H+.+> @B>.CA !B.A B5.B@

@H.>> @B>.CA !A.CA 55.AC@HH.@> @B>.CA !5.AA F.BF@B+.> @B>.CA >.H >[email protected]> @B>.CA !F.>A 5F.A>@H>.FF @B>.CA !+>.+B +>@.HA@H>.5F @B>.CA !+>.AB ++>.>[email protected] @B>.CA !F.CB @@.F5@H+.CF @B>.CA !H.BB H>.H5@CB.@C @B>.CA !++.@C [email protected] @B>.CA !55.CB F+B.@H@@.FF @B>.CA !5C.+B C@B.@>@C5.@> @B>.CA !+H.AA @A>.>@A5+.A> @B>.CA @>. BA>.>A

Total F>A>.5H

C+



INTER!RETATION:

The above table shows 2all option contract return K risk associated with the pricemovement of )D0TDI I0TE for a month of *ebruary K March 5>+5. It has anaverage return of @B>.CAthat is @B>CA.>> and risk is ++.C.

Compariso+ of )%t%res Co+tra$t

Compa+ies Ret%r+ Ris.

ir eccan !+.+F B.>Wipro >.>CB +F.@A)harathi irtel !+.B5 5C.+B

C5



I+terpretatio+:

)y the above graph we can understand that in *uture contract 0isk is more thanthe return for three companies. (o we suggest to those three companies to discontinue thefuture contract to avoid risk.

Compariso+ of !%t Optio+ $o+tra$t

Compa+ies Ret%r+ Ris. ir eccan [email protected] +.C5Wipro 5FA.CB 5C.+B)harathi irtel @B>.CA ++.C

C@



I+terpretatio+:

)y the bove graph we can understand that the risk is so less in the ;ut option forthe three companies i.e. ir eccan, )harathi irtel, and Wipro so we recommend tothose companies to continue with their contract.

)INDIN0S

0isk and 0eturns are Wipro, ir eccan, and )harathi irtel in futures, but where as inoptions risk is limited to premium and the profits are Wipro, ir eccan, and )harathiirtel.

In this research it is found that Wipro futures are generated positive returns of >.>CB.

Where as in Wipro call option it is found that the returns are positive 5FA.CB.

In this research it is found that ir eccan futures are generated negative returns of ' +.+F.

Where as in ir eccan call option it is found that the returns are positive [email protected].

In this research it is found that )harathi irtel futures are generated negative returns of '+.B5.

CA





In bearish market investors are suggested to go for sale of futures or purchase of put

options

The investors are suggested to invest on options because the risk is limited and returns

are unlimited rather than futures. In futures the risk and returns are unlimited.

CONC"USIONS

derivative is an instrument available in financial market which reduces the risk to a

ma"imum e"tent. The risk associated with individual security will be very high to minimize this

risk portfolio construction has been evolved. Mostly portfolios reduce the risk but not to a great

e"tent. Then in the evolution process these instruments known as derivatives emerged. erivates

are of four types out of these futures and options become famous these days the investors are

showing much interest in this instrument these futures and options can be traded to minimize the

risk .9sing these instrument the present pro:ect work has been analyzed to verify whether

actually these futures and options reduce the risk or not. In practical futures and options are

working to the e"pectations of investors satisfactorily.

C



BIBILOGRAPHY

-OO#S AUTHOR NAME

Indian financial system M.Q.<han

*inancial management ;rasanna 2handra

;ublications of national stock e"change

erivatives 2ore Module Workbook 72*M material

*inancial Markets and (ervices 6ordan and 7atra:an

,E- SITES:

www.nseindia.com$futures K options$historical data

www.bseindia.com

www.indian capital market.com

www.investopedia.com

www.monrycontrol.com

www.capitaline.com

www.glossary.reuters.com

www.derivativesindia.com

www.sebi.gov.in

www.moneycontrol.com

www.hseindia.org

CC



www.zenmoney.com

www.indianinfoline.com

www.Fpaisa.com

SEARCH EN0INES

6oogle search.com

Wikipedia.com

sk.com

msn.com

Documents

A Study on Risk Return Analysis in Futures and Options (1)