Options Trading in India… explained !!!

In this post, let us understand options trading in Indian markets in detail and answer some of the related general questions…

How does option trading work in the Indian market?

An option is a contract that gives the buyer the right, but not the obligation, to buy or sell an underlying asset at a specific price and time. In the Indian market, options can be traded on various underlying assets such as stocks, indices, and currencies.

There are two types of options: Call options and Put options.

A Call option gives the buyer the right to buy an underlying asset at a specific price, while a Put option gives the buyer the right to sell an underlying asset at a specific price.

Traders can buy or sell options depending on their market outlook. If a trader believes that the price of the underlying asset will increase, they can buy a call option.

If they believe that the price of the underlying asset will decrease, they can buy a put option. Alternatively, they can sell a call option if they believe that the price of the underlying asset will remain stable or decrease. They can sell a put option if they believe that the price of the underlying asset will remain stable or increase.

Is options trading better than stocks in the Indian market?

Stock trading is a more straightforward that involves buying or selling shares of a company.

Whereas Options trading can offer higher rewards, but it also carries higher risks.

Options trading allows traders to profit from market movements in both directions and provides flexibility in terms of risk management. However, it also involves a significant amount of risk and requires a deep understanding of the market dynamics and the options trading strategy.

On the other hand, stock trading is less complex and involves less risk than options trading. It provides long-term investment opportunities and can offer a steady stream of income through dividends. However, it also has limitations in terms of profit potential and risk management compared to options trading.

Traders must weigh the pros and cons of the above and choose the one that best aligns with their financial goals and risk tolerance.

What are the 4 types of options in the Indian market?

There are 4 types of assets where options can be traded in the Indian market:

• Equity options: These are options that are based on individual stocks.
• Index options: These are options that are based on the performance of an underlying index, such as the Nifty or the Sensex.
• Currency options: These are options that are based on the exchange rate of different currencies, such as the INR-USD exchange rate.
• Commodity options: These are options that are based on the price of different commodities, such as gold or crude oil.

Each type of option has its unique features and risk profile, and traders must understand the underlying dynamics of each option type before trading.

What is option trading with an example in the Indian market?

For example, let’s say that an investor believes that the stock of a company will go up in the future. They can buy a Call option contract that gives them the right, but not the obligation, to purchase the stock at a predetermined price, known as the strike price, on or before a predetermined date, known as the expiration date.

Suppose the investor buys a call option contract for ABC company at a strike price of Rs. 500 with an expiration date of one month from now. The investor will pay a premium for this option contract, which is the cost of buying the option. Suppose the premium for this contract is Rs. 10 per share, and the contract represents 100 shares. The total premium paid by the investor will be Rs. 1,000 (100 shares x Rs. 10 premium per share).

If the stock price of ABC company goes up to Rs. 550 by the expiration date, the investor can exercise the option and buy the shares at the predetermined strike price of Rs. 500. The investor can then sell the shares in the open market at Rs. 550 and make a profit of Rs. 50 per share. However, if the stock price does not go up and instead goes down, the investor may choose not to exercise the option and allow the contract to expire worthless, in which case they will lose the premium paid for the option.

On the other hand, a put option contract gives the investor the right, but not the obligation, to sell the underlying asset at a predetermined price and time in the future. An investor can use put options to speculate on a decline in the stock price of a company.