The options market makes up for a significant part of the derivative market, particularly in India. I would not be exaggerating if I were to say that nearly 80 percent of the derivatives traded are options and the rest is attributable to the futures market.
Internationally, the options market has been around for a while now. Though the options market has been around since 2001, the real liquidity in the Indian index options was seen only in 2006!
I remember trading options around that time, the spreads were high and getting fills was a big deal. However, in 2006, the Ambani brothers formally split up and their respective companies were listed as separate entities, thereby unlocking the value to the shareholders.
A special agreement
There are two types of options: call and put.
You can be a buyer or seller of these options. Based on what you choose to do, the P&L profile changes. Of course, we will get into the P&L profile at a much later stage.
For now, let us understand what the call option means. In fact, the best way to understand the call option is to first deal with a tangible real-world example, once we understand this example we will extrapolate the same to stock markets. So let’s get started.
Consider this situation; there are two good friends, Ajay and Venu. Ajay is actively evaluating an opportunity to buy 1 acre of land that Venu owns. The land is valued at Rs 500,000. Ajay has been informed that in the next 6 months, a new highway project is likely to be sanctioned near the land that Venu owns.
If the highway indeed comes up, the valuation of the land is bound to increase and therefore Ajay would benefit from the investment he would make today.
If the highway news turns out to be a rumour – which means Ajay buys the land from Venu today and there is no highway tomorrow, then Ajay would be stuck with a useless piece of land!
Investment & trading in securities market is always subjected to market risks, past performance is not a guarantee of future performance.
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