2.1– Decoding the basic jargons
In the previous chapter, we understood the basic call option structure. The idea of the previous chapter was to capture a few essential ‘Call Option’ concepts such as –
- It makes sense to be a buyer of a call option when you expect the underlying price to increase
- If the underlying price remains flat or goes down then the buyer of the call option loses money
- The money the buyer of the call option would lose is equivalent to the premium (agreement fees) the buyer pays to the seller/writer of the call option.
In the next chapter i.e. Call Option (Part 2), we will attempt to understand the call option in a bit more detail. However before we proceed further let us decode a few basic option jargons. Discussing these jargons at this stage will not only strengthen our learning, but will also make the forthcoming discussion on the options easier to comprehend.
Here are a few jargons that we will look into –
- Strike Price
- Underlying Price
- Exercising of an option contract
- Option Expiry
- Option Premium
- Option Settlement
Do remember, since we have only looked at the basic structure of a call option, I would encourage you to understand these jargons only with respect to the call option.
Strike Price
Consider the strike price as the anchor price at which the two parties (buyer and seller) agree to enter into an options agreement. For instance, in the previous chapter’s ‘Ajay – Venu’ example the anchor price was Rs.500,000/-, which is also the ‘Strike Price’ for their deal. We also looked into a stock example where the anchor price was Rs.75/-, which is also the strike price. For all ‘Call’ options the strike price represents the price at which the stock can be bought on the expiry day.
For example, if the buyer is willing to buy ITC Limited’s Call Option of Rs.350 (350 being the strike price) then it indicates that the buyer is willing to pay a premium today to buy the rights of ‘buying ITC at Rs.350 on expiry’. Needless to say he will buy ITC at Rs.350, only if ITC is trading above Rs.350.
In fact here is a snap shot from NSE’s website where I have captured different strike prices of ITC and the associated premium.
The table that you see above is called an ‘Option Chain’, which basically lists all the different strike prices available for a contract along with the premium for the same. Besides this information, the option chain has a lot more trading information such as Open Interest, volume, bid-ask quantity etc. I would suggest you ignore all of it for now and concentrate only on the highlighted information –
- The highlight in maroon shows the price of the underlying in the spot. As we can see at the time of this snapshot ITC was trading at Rs.336.9 per share
- The highlight in blue shows all the different strike prices that are available. As we can see starting from Rs.260 (with Rs.10 intervals) we have strike prices all the way up to Rs.480
- Do remember, each strike price is independent of the other. One can enter into an options agreement , at a specific strike price by paying the required premium
- For example one can enter into a 340 call option by paying a premium of Rs.4.75/- (highlighted in red)
- This entitles the buyer to buy ITC shares at the end of expiry at Rs.340. Of course, you now know under which circumstance it would make sense to buy ITC at 340 at the end of expiry
Underlying Price
As we know, a derivative contract derives its value from an underlying asset. The underlying price is the price at which the underlying asset trades in the spot market. For example in the ITC example that we just discussed, ITC was trading at Rs.336.90/- in the spot market. This is the underlying price. For a call option, the underlying price has to increase for the buyer of the call option to benefit.
Exercising of an option contract
Exercising of an option contract is the act of claiming your right to buy the options contract at the end of the expiry. If you ever hear the line “exercise the option contract” in the context of a call option, it simply means that one is claiming the right to buy the stock at the agreed strike price. Clearly he or she would do it only if the stock is trading above the strike. Here is an important point to note – you can exercise the option only on the day of the expiry and not anytime before the expiry.
Hence, assume with 15 days to expiry one buys ITC 340 Call option when ITC is trading at 330 in the spot market. Further assume, after he buys the 340 call option, the stock price increases to 360 the very next day. Under such a scenario, the option buyer cannot ask for a settlement (he cannot exercise) against the call option he holds. Settlement will happen only on the day of the expiry, based on the price the asset is trading in the spot market on the expiry day.
Option Expiry
Similar to a futures contract, options contract also has expiry. In fact both equity futures and option contracts expire on the last Thursday of every month. Just like futures contracts, option contracts also have the concept of current month, mid month, and far month. Have a look at the snapshot below –
This is the snapshot of the call option to buy Ashok Leyland Ltd at the strike price of Rs.70 at Rs.3.10/-. As you can see there are 3 expiry options – 26th March 2015 (current month), 30th April 2015 (mid month), and 28th May 2015 (far month). Of course the premium of the options changes as and when the expiry changes. We will talk more about it at an appropriate time. But at this stage, I would want you to remember just two things with respect to expiry – like futures there are 3 expiry options and the premium is not the same across different expiries.
Option Premium
Since we have discussed premium on a couple instances previously, I guess you would now be clear about a few things with respect to the ‘Option Premium’. Premium is the money required to be paid by the option buyer to the option seller/writer. Against the payment of premium, the option buyer buys the right to exercise his desire to buy (or sell in case of put options) the asset at the strike price upon expiry.
If you have got this part clear till now, I guess we are on the right track. We will now proceed to understand a new perspective on ‘Premiums’. Also, at this stage I guess it is important to let you know that the whole of option theory hinges upon ‘Option Premium’. Option premiums play an extremely crucial role when it comes to trading options. Eventually as we progress through this module you will see that the discussions will be centered heavily on the option premium.
Let us revisit the ‘Ajay-Venu’ example, that we took up in the previous chapter. Consider the circumstances under which Venu accepted the premium of Rs.100,000/- from Ajay –
- News flow – The news on the highway project was only speculative and no one knew for sure if the project would indeed come up
- Think about it, we discussed 3 possible scenarios in the previous chapter out of which 2 were favorable to Venu. So besides the natural statistical edge that Venu has, the fact that the highway news is speculative only increases his chance of benefiting from the agreement
- Time – There was 6 months time to get clarity on whether the project would fructify or not.
- This point actually favors Ajay. Since there is more time to expiry the possibility of the event working in Ajay’s favor also increases. For example consider this – if you were to run 10kms, in which time duration are you more likely to achieve it – within 20 mins or within 70 mins? Obviously higher the time duration higher is the probability to achieve it.
Now let us consider both these points in isolation and figure out the impact it would have on the option premium.
News – When the deal was done between Ajay and Venu, the news was purely speculative, hence Venu was happy to accept Rs.100,000/- as premium. However for a minute assume the news was not speculative and there was some sort of bias. Maybe there was a local politician who hinted in the recent press conference that they may consider a highway in that area. With this information, the news is no longer a rumor. Suddenly there is a possibility that the highway may indeed come up, albeit there is still an element of speculation.
With this in perspective think about this – do you think Venu will accept Rs.100,000/- as premium? Maybe not, he knows there is a good chance for the highway to come up and therefore the land prices would increase. However because there is still an element of chance he may be willing to take the risk, provided the premium will be more attractive. Maybe he would consider the agreement attractive if the premium was Rs.175,000/- instead of Rs.100,000/-.
Now let us put this in stock market perspective. Assume Infosys is trading at Rs.2200/- today. The 2300 Call option with a 1 month expiry is at Rs.20/-. Put yourself in Venu’s shoes (option writer) – would you enter into an agreement by accepting Rs.20/- per share as premium?
If you enter into this options agreement as a writer/seller, then you are giving the right (to the buyer) of buying Infosys option at Rs. 2300 one month down the lane from now.
Assume for the next 1 month there is no foreseeable corporate action which will trigger the share price of Infosys to go higher. Considering this, maybe you may accept the premium of Rs.20/-.
However what if there is a corporate event (like quarterly results) that tends to increase the stock price? Will the option seller still go ahead and accept Rs.20/- as the premium for the agreement? Clearly, it may not be worth to take the risk at Rs.20/-.
Having said this, what if despite the scheduled corporate event, someone is willing to offer Rs.75/- as premium instead of Rs.20/-? I suppose at Rs.75/-, it may be worth taking the risk.
Let us keep this discussion at the back of our mind; we will now take up the 2nd point i.e. ‘time’
When there was 6 months time, clearly Ajay knew that there was ample time for the dust to settle and the truth to emerge with respect to the highway project. However instead of 6 months, what if there was only 10 days time? Since the time has shrunk there is simply not enough time for the event to unfold. Under such a circumstance (with time not being on Ajay’s side), do you think Ajay will be happy to pay Rs.100,000/- premium to Venu?. I don’t think so, as there is no incentive for Ajay to pay that kind of premium to Venu. Maybe he would offer a lesser premium, say Rs.20,000/- instead.
Anyway, the point that I want to make here keeping both news and time in perspective is this – premium is never a fixed rate. It is sensitive to several factors. Some factors tend to increase the premium and some tend to decrease it, and in real markets, all these factors act simultaneously affecting the premium. To be precise there are 5 factors (similar to news and time) that tends to affect the premium. These are called the ‘Option Greeks’. We are too early to understand Greeks, but will understand the Greeks at a much later stage in this module.
For now, I want you to remember and appreciate the following points with respect to option premium –
- The concept of premium is pivotal to the Option Theory
- Premium is never a fixed rate, it is a function of many (influencing) factors
- In real markets premiums vary almost on a minute by minute basis
If you have gathered and understood these points so far, I can assure that you are on the right path.
Options Settlement
Consider this Call option agreement –
As highlighted in green, this is a Call Option to buy JP Associates at Rs.25/-. The expiry is 26th March 2015. The premium is Rs.1.35/- (highlighted in red), and the market lot is 8000 shares.
Assume there are 2 traders – ‘Trader A’ and ‘Trader B’. Trader A wants to buy this agreement (option buyer) and Trader B wants to sell (write) this agreement. Considering the contract is for 8000 shares, here is how the cash flow would look like –
Since the premium is Rs.1.35/- per share, Trader A is required to pay the total of
= 8000 * 1.35
= Rs.10,800/- as premium amount to Trader B.
Now because Trader B has received this Premium form Trader A, he is obligated to sell Trader A 8000 shares of JP Associates on 26th March 2015, if Trader A decides to exercise his agreement. However, this does not mean that Trader B should have 8000 shares with him on 26th March. Options are cash settled in India, this means on 26th March, in the event Trader A decides to exercise his right, Trader B is obligated to pay just the cash differential to Trader A.
To help you understand this better, consider on 26th March JP Associates is trading at Rs.32/-. This means the option buyer (Trader A) will exercise his right to buy 8000 shares of JP Associates at 25/-. In other words, he is getting to buy JP Associates at 25/- when the same is trading at Rs.32/- in the open market.
Normally, this is how the cash flow should look like –
- On 26th Trader A exercises his right to buy 8000 shares from Trader B
- The price at which the transaction will take place is pre decided at Rs.25 (strike price)
- Trader A pays Rs.200,000/- (8000 * 25) to Trader B
- Against this payment Trader B releases 8000 shares at Rs.25 to Trader A
- Trader A almost immediately sells these shares in the open market at Rs.32 per share and receives Rs.256,000/-
- Trader A makes a profit of Rs.56,000/- (256000 – 200000) on this transaction
Another way to look at it is that the option buyer is making a profit of Rs.7/- per shares (32-25) per share. Because the option is cash settled, instead of giving the option buyer 8000 shares, the option seller directly gives him the cash equivalent of the profit he would make. Which means Trader A would receive
= 7*8000
= Rs.56,000/- from Trader B.
Of course, the option buyer had initially spent Rs.10,800/- towards purchasing this right, hence his real profits would be –
= 56,000 – 10,800
= Rs.45,200/-
In fact if you look at in a percentage return terms, this turns out to be a whopping return of 419% (without annualizing).
The fact that one can make such large asymmetric return is what makes options an attractive instrument to trade. This is one of the reasons why Options are massively popular with traders.
Key takeaways from this chapter
- It makes sense to buy a call option only when one anticipates an increase in the price of an asset
- The strike price is the anchor price at which both the option buyer and option writer enter into an agreement
- The underlying price is simply the spot price of the asset
- Exercising of an option contract is the act of claiming your right to buy the options contract at the end of the expiry
- Similar to futures contract, options contract also have an expiry. Option contracts expire on the last Thursday of every month
- Option contracts have different expiries – the current month, mid month, and far month contracts
- Premiums are not fixed, in fact they vary based on several factors that act upon it
- Options are cash settled in India.
Like future price how option price calculated
Options are priced based on a pricing model called the ‘Black & Scholes’ option pricing model. We will talk about it at a much later point in this module.
Hi Karthik, thank you for the very good explanations!
Below is my understanding of the options. Please correct if I am wrong.
In options market, nobody is a permanent seller or buyer for the option unless they hold the option till expiry.
A new contract gets created when buyer and seller agree on a strike price & premium.
The current buyer & seller both can get out of the contract by selling the option to another buyer (by receiving premium) OR buying option from another seller (by paying premium) respectively.
Both the buyer and seller can square-off their position before expiry, by selling option or buying option respectively.
Their profit or loss will depend upon the premium at which they bought and sold their option.
If they hold onto the option till expiry, for call option, if the spot price is more than strike price, exchange will exercise the option and buyer will receive the difference between spot & strike price. The buyer will be profitable only if this difference is more than the premium paid. If the option gets exercised, the buyer will have to pay higher STT.
On expiry, for call option, if the spot price is less than strike price, the option will be considered worthless expired.
The premium paid will be buyer’s loss and seller’s gain.
Example:
Suppose there is only one option seller S1 and two buyers B1 & B2.
First S1 will tries to sell one call option and B1 agrees on premium and strike price. B1 pays the premium to S1 and one new contract gets created. Now both S1 & B1 wait for the spot price to move in their preferred direction and premium will change accordingly.
Now suppose premium increased and B1 wants to square-off his position by selling this option. A new buyer B2 who wants to enter the contract or Seller S1 who wants to get out of the contract can buy from B1 by paying current premium. If S1 agrees on the premium asked by B1, this contract will get closed. If B2 agrees for premium asked by B1, the contract will just change hands from B1 to B2. B2 will pay the premium to B1. So now B1 is out of the market and S1 & B2 are waiting for spot price/premium to change.
If B2 wants to hold this option till expiry, and there are no other buyers in the market for this option, S1 will be forced to hold this option till expiry. On expiry, whether this option will exercise or expire worthless, depends upon spot price on expiry.
If the spot price is more than strike price, option will be exercised and if spot price is less than strike price, it will expire worthless.
In real market, there will be thousands of traders who will create new contracts between each other and depending upon their current profit/loss will either square-off or hold the option till expiry. In general, if the demand for the option is more, new contracts will get created increasing OI and if supply is more, some of the contracts will get closed thereby decreasing OI.
One correction:
If B2 wants to hold this option till expiry, and if there are no other SELLERs in the market for this option, S1 will be forced to hold this option till expiry, since he cannot buy and square-off his position. On expiry, whether this option will get exercised or expire worthless, depends upon spot price on expiry.
yes Sir!
I’m happy – looks like you got all the points correctly, including the one on STT, which many people miss 🙂
Only one correction – initially S1 and B1 created the contract. When B1 decides to exit the position, the money will get paid to B1 from B2 based on the prevailing premium in the markets. It is important to note here that B1 now transitions to a seller and maybe you can call him S2. There is no direct exchange of money between S1 and B2.
Thanks for the prompt reply Karthik!
I have read through all the comments here and understood most of the answers.
I think, you should create a chapter out of all these Q&A, since some of the questions are repetitive.
Most of the questions are around square-off before expiry, and what happens on expiry.
It will be very much helpful for new readers of Varsity.
If you need help, please let me know, I will be very happy to draft Q&A for you.
Thanks again!
Thanks for the suggesting and for your generous offer 🙂
I will check with my team here and see what can be done. Thanks.
Hi Karthik,
I tried buying few 1 8900 NIFTY call option contracts just to clear a few things in my head because I was unsure how to square-off a contract that I have bought. For squaring-off I clicked the ‘Square-off’ button on pi.
1. If instead of clicking the Square-Off button I would have sold 1 lot (25 units) of the same using the ‘SELL’ button (F2 key) , would that have also meant that I would have ‘Squared-Off’ my existing position or would that have meant that I would have continued to have 1 contract of 8900 Call Buy option and I would have sold a different 8900 call option? (I hope I make sense). I must tell you that I am very scared of selling options due to the infinite risk associated.
2. To write options, do we need to click on the ‘SELL’ button and then proceed?
3. How do we exercise an option on the last day? Does the exchange automatically do it for us or do we ‘Square-off’ or Sell?
On a side note: I was trying to do some intraday premium play on the budget day and once a few days before that. Each time I took a position the market moved in the opposite direction and I lost some money. Apparently it is not as easy to make money in options as a friend told me it would be. It is just amazing how can I keep on taking positions just when the chart reverses. I am hoping I know better by the end of this module 🙂
Appreciate your effort!
Here are the answers –
1) To square off you have two options – either you can select the ‘square off’ button from Admin positions or your can simply select the contract (8900 Call in your case), press F2 (becuase you were long on 8900 Call) and press submit. When you do so the RMS software is intelligent enough to understand that there is an existing open long position against your client id and hence it will net you off and close all position. So as simple as that. Also imagine you have 1 lot of 8900 call option..you decide to press F2 to square off this open position…but instead of 1 lot you enter 2 lots then the system will square off your 1 long position and create 1 short position.
2) To write options you will have to select the contract you wish to write and press F2…or simply call your broker and ask him to write, no other way to this 🙂
3) To excersie an option contract that you own you should leave it ‘just like that to expiry’. Exchange do the rest. However when you have written and option and it is profitable I would advice you to square off the position instead of leaving it to the exchange as it attract taxes. More on this aspect later in the module
Yeah, options is a little tricky instrument to trade. They are multi dimensions unlike futures where only the direction matters. I hope you will fully appreciate this aspect as we progress in this module…and also, I hope I can convince you that option writing is not really a scary thing, as long as you are fully aware of the circumstances under which you are shorting.
On the same topic (Saurabh’s)….the “square off” button helps close an open position at market price, while placing a contrary order gives you the option (choice) to sell/buy at a “limit” price, right? Just confirming an assumption that I’ve made till now.
Absolutely.
Sir, Highly appreciated the way you are answering our questions patiently (some appears to be small/silly). I want to clear myself from my doubt that, if I would have bought a call option on 15.03.15 and the premium/ stock price rose rapidly in two days .Can I square off and take profits or shall I have to wait till expiry. some of my freind told it can be squared off on the same day if were in profits. Thanks/Ragards
You can book your profits as and when you deem appropriate – this means you can buy an option at 9:15 AM for say Rs.10 and a 9:18 AM the premium goes to Rs.11 and you are happy with Rs.1/- profit you can choose to close your option position. There is no need to wait till expiry.
I am confused here. Didn’t you say earlier that we cannot exercise our option until expiry?
Yes thats true, you can exercise options only by expiry, however you can square off your position anytime you wish. Its important to realize that ‘squaring off’ a position is different from option exercise.
sir you are doing a great job… “Priceless” ….. sir it will be great if you can explain the difference between exercising the option and squaring off an option…
Thanks for the kind words.
Exercising the option means that you hold the option till expiry. In this case your P&L will depend on the intrinsic value of the option. However you can also choose not to hold the option to expiry…you can trade just the premium. Like buy an option now and sell few minutes later or hold it for few days.
sir
as said by you i get aprofit of rs 1 then what happens to my premium. will it be returned
Yes – its like this – you paid Rs.100 as premium, and you received 105 as a premium when you sell the same. So you make a profit of Rs.5.
Hi Karthik,
Thanks for the module again.. Here is my doubt.
You said that the call option can only be settled on the date of expiry. So, if I buy a Call option at a particular premium and the stock rallies before the expiry, Can i close my positions to get the benefit of that rally before the contract expires???
Yes of course 🙂 Also, please see my reply for T Rama Devi’s query.
Got that. .Thanks sir.. 🙂
Sorry to butt in on an older thread, i’m trying to learn options and regarding this answer, I’ve a doubt…
What does it mean by ” call option can only be settled on the date of expiry”, if it can be squared off any time ?? doesn’t it sound contradicting ?
You can book a profit anytime you wish. If you chose to hold it till expiry, then it will be subjected to settlement from exchange. Settlement will happen based on the price of the option.
sir while trading b.nifty options should we track fut price r spot price, tell even for nifty,stock option
Always the spot prices.
Sir,
Applauds to your explanation/chapters on Options, While observing option chains, Is it advisable to keep highest Call Base ( which has High Oi) and Highest Put Base as Resistance and support level for Indices/stocks. Thanks
Regards
I’m not sure if the option chain is customizable on NSE. In fact option chain is usually segregated on the ‘moneyness’ of an option, will talk more on this shortly.
Hi karthik,
if i wanted to buy call/ put option based on support and resistance for that how to calculate correct premium. and pls can u clarify importance of IV(implied volatility ) and OI.
Thanks/Regards
We will discuss about volatility (including implied volatility) shortly in this module. When you buy options based on support or resistance there is no special way to calculate the premiums…you will have to go with what is being quoted in the market.
You can read about OI here – http://zerodha.com/varsity/chapter/open-interest/
sir suppose i buy itc 370 call option at 1 rs when itc is at 350 now if itc falls to 340 and premium becomes .50, can i exit the call by selling it @ .50? and also will it mean that i have lost 1*1000 which i paid as premium
You will lose (1 – 0.5)*1000
=0.5*1000
=500/-
Thank you sir… Before going through you chapter I read a lot of articles, but had many doubts, but your chapters made every thing clear, now i can start trading in options. Thanks again, you are doing a great job…!!
Glad to know that, please stay tuned for more content.
after reading the simple yet highly effective modules by you… i am all set to open an account with Zerodha. hope you/zerodha personnel will help me in understanding option practically, as well
Glad to know that Ankit, hope to have you on-board soon 🙂
This link will help you with your account opening process – https://zerodha.com/open-account
We will work towards putting up the best content on options, we will keep it practical and actionable! Please stay tuned.
Suppose I buy one lot of put option at a specified strike price and expiry date after few minutes I sell this at same strike price and expiry date instead of square off . Is this option execute?
Yes, you can square off your options within a time span of few minutes. No problem with that.
Dear Subhankar
When you buy an option and minutes later if you sell, the open interest created by you because of buying option will be closed on selling option even if it is minutes later. This is what we call squaring off.
Thank you om prakash.
Perfect.
Suppose i sell first and then buy in option instead of first buy and then sell. Is this possible ? If possible then what amount is deducted?
Yes, this is called “Option Selling”. The same has been explained in Chapter – 4, 6, and 7.
Dear Sir, I really want to touch your feet!!!. I have read so many books about options but nothing was landing. your style of teaching is amazing!! Now I am clear about. Thank you very much.
Regards,
Vishnu Sankaran
Sir, thank you for the kind words and encouragement. By the way, nobody’s feet is worth touching! We are all just doing our job …and if a job is worth doing, its worth doing it well 🙂
Golden words:
“We are all just doing our job …and if a job is worth doing, its worth doing it well.”
Happy to note that you are going through the comments 🙂
Happy learning!
Where can you check the price of options on google/yahoo finance? I couldn’t find any source.
I doubt these website give out Option data. Best is to look for the Option Chain in NSE.
sir,
in the example underlying price is 25.90 where ever strike price is 25.00 rs. how can we say this call buy option. still lot off confusion hence asking
thanks
milinf
Sorry Milind, I’m unable to understand your question. Can you kindly elaborate a bit more?
hi,
Please correct me if i am wrong. Underlying price is the one at which the stock is currently trading and strike price is the one at which stock can be bought
if the strike price is above the underlying price, and if attained gives you profit
if the strike price is below the underlying price, and the underlying price in future goes up, how a profit is booked
Yes, your understanding price if underlying and strike price is correct.
What you’d mentioned though about profitability is depended on the option type (call or puts).
Sir if Iam the writer and have sold a call say of ITC @310 for Rs30/-. Now ITC falls to 305/- in a weeks time. I am in profit at this time.. can I square it now or does a writer have to wait till expiry.
You can square off the position anytime you wish. There is no need to hold the position till expiry.
Hello Sir, in your tutorial u mentioned, “Further assume, after he buys the 340 call option, the stock price increases to 360 the very next day. Under such a scenario, the option buyer cannot ask for a settlement (he cannot exercise) against the call option he holds. Settlement will happen only on the day of the expiry, based on the price the asset is trading in the spot market on the expiry day.”
Now your answering questions saying that if one is in profit then can close the option position any time. I am a little confused. Please help
We are talking about two things here, sorry if I’ve confused your here. When you buy a call option @340 and next day it goes to 360, you clearly have made a profit here – you can take this profit and close your trade. However settlement is waiting till expiry and taking your Profit or loss on the expiry day. If you take your P or L on expiry day then you can treat this as settlement…else consider this as regular Profit loss booking. Hope I dint confuse you further 🙂
Yes, I think I am clear now. It means that we can close the trade before the expiry date as per our profits but the settlement of that trade will still happen on the expiry date. So closing a trade and settlement are two different activities in your context. Please correct me if I am wrong.
Perfect. Booking profits simply means you close the trade and realize the profit or loss. Whereas waiting for settlement is waiting till the expiry day to realize your profit or loss.
Thanks for the clarification. One more doubt I have. In the same example, wherein, I bought a call option at 340 and next day it went up to 360 and I have closed the trade watching my profit. Now, if the stock price again goes to 330 after 2 days and before the expiry so what would be the settlement of the trade?? Whether, I would be in profit as 360 closing price or 330 would get considered??? Or I would not get impacted by any price change before expiry at all once I have closed the trade??
Once you have closed the trade you are out of the markets so it does not matter at all.
continuing the doubt of Mr Saurabh Garg; for example I used a premium amount of 10000 to buy a call option at 340 and sold it at 360 on the next day (well before the expiry date) .
Will I be able to use the 10000 + profit gained in the above transaction to buy a new call option?
When will the money be credited into the trading account on the day on which the option was sold or after the exipry date of the option?
So in this case the money will be in your account the same day (which you can use for some other transaction). In case you do not use this for any transaction the money will be ready for withdrawal the next day.
Hi,
Firstly thanks for giving us an understanding on options in the simplest way possible.
My doubt here is that, I have studied the premium charts and as the markets approach the expiry the premium decreases. Incase I have purchased JP Associates call 1 week prior to expiry at 1/- (1 lot @ spot price 12) and at the day of expiry the price of the premium is 0.15 paise I will still make profit if the rate of JP Associates is 14/- and I square off my trade.
My profit:
((14-12) * lot size) – premium paid
Correct me if my understanding is incorrect.
Darshan – Firstly you should not look at the charts of option premium. Its not the right way to approach the option markets.
In case of the example quoted – In case you have bought a call option at Rs.1, when the spot is at 12, then when the spot goes to 14, then all option strikes below 14 will be profitable…all option strikes at 14 and above will not be profitable.
Hi Karthik,
Based on your reply I can assume that if I square off on the day of expiry immaterial of the premium rate I will end up in profit.
Yes, provided the option expires ‘In the Money’ (ITM). Also, the ITM value should be more than the premium you have paid.
kartik,
Cant understand the term ITM
What is ITM and OTM. Can you illustrate some example here
Check this Shravan – https://zerodha.com/varsity/chapter/moneyness-of-an-option-contract/
Dear Kartik
first of all accept my heart felt gratitude for doing such a fantastic work .
But I am bit confused by your reply to this particular query of Mr Darshan. Why should it not be profitable when the spot price is at 14 or above?In fact wouldn’t it be as much more profitable as the spot price is more than 14?
Thanks Rohit!
I guess I had assumed that the expiry happens at 14. So @ 14 all CE options below 14 will be ITM and hence profitable…above 14 will be OTM hence not profitable.
Hi Karthick,
So at the expiry time premium price doesn’t matter only ITM will be profitable and OTM will be in non profitable ?
Eg.. Say NIFTY at 10100 & 10000 Strike premium is 200 and at the expiry day NIFTY closed at 10200 and premium is 0.05…
i think i were in loss of (200-0.05 = 199.95 ; 75*199.95 = approx 14996)
pls clarify
Yes, thats right.
SO 200 X 75 = 15,000 is my proft at that time of Expiry…
Am i correct
SO 200 X 75 = 15,000 is my profit at that time of Expiry…
Am i correct
Hi Karthik,
In the mentioned scenario of this Call Option, the profit would be exactly the same as Darshan calculated [((14-12) * lot size) – premium]?
It means, once the Spot price is crossed above the Strike Price, it doesn’t matter what the current premium rate is going on…eg. it may be above 1 or below 1. Current premium rate is not our concern anymore. Our profit will be simply the difference between Spot and Strike Price after compensating paid premium (at the time of entering the contract).
Please rectify me if I am wrong.
Upon expiry, the profit will be the difference between the spot price and the premium. However, if this is during the series, the P&L will be based on the difference between the price at which you buy and sell the options i.e the difference between premiums.
Thank You, Karthik. I got it now.
Cheers!
Hi Karthik,
In the example quoted above by Mr Swamy- [Eg.. Say NIFTY at 10100 & 10000 Strike premium is 200 and at the expiry day NIFTY closed at 10200 and premium is 0.05…], can you pls clarify if the profit calculation mentioned below is correct or not?
Profit at the time of expiry= Intrinsic value of the option- premium paid
Strike Price= 10000, Spot price @ expiry= 10200, premium paid= 200 (All values for a single NIFTY unit)
Hence, profit= (10200-10000)-200 = 0
Also, can you pls clarify again that though the premium has gone down from 200 to 0.5 (@expiry), but since we are carrying the option till the expiry, the premium at the expiry doesn’t make any effect on the P&L?
Yes, that calculation is right. The intrinsic value is 200 but since 200 was the premium, the trader neither makes money or loses any. Btw, the premium wont go down to 0.05, it will be 200.
Thanks Karthik for verifying the calculation but I didn’t get why are you saying that the premium won’t go down to 0.05. It was 200 at the time of Option purchase and 0.05 at the time of Option expiry. When the Spot price has moved since purchase, why can’t the premium change?
Becuase the option has become in the money by 200, hence the price cannot be less than the intrinsic value.
Oh! Okay. That’s a new information for me. Thanks again Karthik!
Good luck, Kanika!
what happens to the holder of option stock at the expiry…
It gets cash settled.
Sir what will be the amount of profit
Sorry, don’t seem to get your question.
On the NSE site, when I click on any LTP in the options chain for a single stock and not an index (such as NIFTY), and then view the quote’s historical data price for the past 3 months (this peculiarity is only occurring in the past 3 months options and not in the 1 day, 7 days, 2 weeks or 1 month data) then there is a difference between the closing price and the ‘settle price’ for the initial month (that is 3 months ago) when the contracts, turnover, OI, open, high, low is 0. I have three questions.
1. If the contracts, turnover, OI, open, high, low is 0, then how come there is a closing price?
2. What is the ‘settle price’ and why is it so drastically different from the ‘close price’?
3. Why is it unattractive to trade in options for the far month (that is 3 months forward)?
Looking forward to your response.
Thanks.
1) If all is zero then the closing price will usually be a carry of the most recent close…maybe the previous day
2) I just looked at some data – I see the settlement and closing price to be same. Check this – http://www.nseindia.com/live_market/dynaContent/live_watch/get_quote/GetQuoteFO.jsp?underlying=SUNPHARMA&instrument=OPTSTK&strike=860.00&type=CE&expiry=30JUL2015#
Assuming I’m wrong…I’m guessing this- Since you are viewing the historical data – settlement price could the be closing price on the expiry date – NSE is giving you this information to contrast the closing with actual settlement.
3) Far month contracts usually have less liquidity, hence people don’t prefer to trade contracts where they cannot easily get in and get out.
Thanks for your reply and for Zerodha varsity! I have one more doubt regarding my first and second question. See this for instance — http://www.nseindia.com/live_market/dynaContent/live_watch/get_quote/GetQuoteFO.jsp?underlying=GLENMARK&instrument=OPTSTK&strike=1060.00&type=CE&expiry=30JUL2015# — If you see the historical data for 3 months, then look at the period from say 28th May to 16th June, you will understand what I was trying to say.
Got it, this mainly happens when there is no liquidity. Traders are not trading the contract hence the difference between closing price and settlement price (notice 0 in the contracts column).
So what is settle price then? Assuming I have an option on days when I am the sole seller and someone else is the sole buyer, will I be paid the settle price or the close price?
Hello karthik,thank you first for such a wonderful explanation.
there is one doubt in my my what does it mean by EXERCISING A CONTRACT, i used to trade in option market and if we dont sell an option before expiry it all become zero? am i right ?if not please explain little more how and what price exchange pay for our option
thank you for your response.
Sudeep – when you buy options you can either hold the option till expiry and let the exchange do the settlement for you (this is called Exercising a contract)..or you can close the position before expiry and book profits/loss. Also not all options goto to zero….this depends on the intrinsic value of the option at the time of expiry. Suggest you continue reading this module for more details and better clarity.
In your example trader A gets 56000 Rs. Who pays him this? Is it trader B who pays him from his own pocket!?
The party buying from Trader A pays him the money….this could be anyone in the stock market.
In this above example, say If I wish to execute my option on the expiry date and realize profits, Do I need to maintain the an account balance to buy 8000 shares. I’m referring to
On 26th Trader A exercises his right to buy 8000 shares from Trader B
The price at which the transaction will take place is pre decided at Rs.25 (strike price)
Trader A pays Rs.200,000/- (8000 * 25) to Trader B
Against this payment Trader B releases 8000 shares at Rs.25 to Trader A
Trader A almost immediately sells these shares in the open market at Rs.32 per share and receives Rs.256,000/-
Trader A makes a profit of Rs.56,000/- (256000 – 200000) on this transaction
So needs to maintain Rs.20000/- in his account to exercise the contract or can he execute the contract without maintaining enough balance Rs.20,000/- in this case.
Since options are cash settled in India, the traders (trader B) is required to maintain the differential amount in the account i.e 56K.
What about trader A ?
Trader A would have paid the premium, so he is good. Since the P&L is cash settled, trader A gets the differential.
Hi, karthik
I had bought idea, strike price @140 rs with a premium 10 rs. and now the price went upto 151 rs and the premium is 12 rs. So if I squre off my position now, will my profit is from the difference in premium ie(12-10) or (151-(140+10)=1)
12 – 10 = 2 is the Profit.
As you mentioned that if we square off the position before the expiry date the profit/Loss will be counted only on premium. While strike price will not be considered for P/L. Please correct me if I misunderstood.
True…P&L during expiry is Buying price of option – selling price of option.
P&L on expiry is intrinsic value of options.
Hi karthik, a little query… suppose i buy nifty 8200 CE one day proir expiry @ rs 5 , now its expiry day , and there is not much movement till 3 pm, hence the premium has dropped down significantly to say rs 1 …. suddenly there is activity and the index has started moving… and its on 8215 @ 3.15 pm… but the premium is still below the buying price…. now what sud one do here…..? Hope that the index closes over 8200…n let the contract expire and let the exchange do the rest…. (in this case, i have heard exchange levies certain taxes, what are those and how much), or square off the position at loss…(as the premium has depriciated )
Ravi – if Nity spot is at 8215 at 3:15 PM on the day of the expiry, then 8200 CE will be priced closed to its intrensic value i.e Rs.15…its unlikely for the option to trade below Rs.5 (the price that you have paid for option). Also, its very difficult to predict what is likely to happen in the last 15 mins of expiry.
If you have a ITM option, its best to book profits to avoid STT, check this – http://zerodha.com/z-connect/queries/stock-and-fo-queries/stt-options-nse-bse-mcx-sx
Karthik I would like to understand what is the difference between profit booking and exercising the option. both have to be different because profit booking can be done anytime but exercising the option can only be done at the time of expiryin European options
Absolutely, you highlighted the difference yourself 🙂
Karthik,
Can we please have the options module in pdf formatt.
Regards,
Muthu
Sure, we are working on it. Please do give us sometime.
Does money get blocked till the expiry date if I choose to square off my long call before?
No..if you square off the trade before expiry, then your money is not blocked.
Karthik,
Which ones easier, day trading or options?
Can you please lay down the perks of both of them? It’s kinda hard to choose one of them.
What does bid qt/ask qt and bid rate/ask rate supposed to mean?
How do I use them in day trading?
Explained in section 9.6 – http://zerodha.com/varsity/chapter/the-trading-terminal/
You mean – day trading options vs positional options trade?
Please explain meaning of ” old business has covered there shorts”
Can a person who sell some quantity of stock x buy back the same quantity without the presence of other buyer in market??
A buyer and a seller together makes a market. There cant be a buy in the absence of a sell.
Not sure what that line means. But liked said, there cant be a sell without a buy and vice versa.
Hi Karthik,
what does it mean when the Change in OI is -ve on a non-expiry day ? how can contracts vanish before expiry
A contract is created when a buyer and seller agree upon a transaction. Likewise a contract can be closed when they both wish to get out of the contract.
Hello Karthik,
If I buy call option of “TECHM MAR 470 CE” today, then after few days (before expiry), can I book my profit to sell “TECHM MAR 470 CE” like equity cash?
You can do that.
thank you karthik
Sir, while discussing about land example u said…profit to ajay is (underlying value on option expiry – strike price + premium) but in the previous comments u said profile is the dif between option premium on expiry – option premium on date of contract..please explain it sir? Thanks in adavance
Ah, I’d suggest you read through then next few chapters…you will get clarity on this 🙂
Thanks for this Module Karthik, and answers you have given which helped me understand it much better way..!
1 more doubt i am left with is , when i am buying a call option for Nifty say 8000ce where the underlying price is 7790 and when it comes to 7840 the premium amount also increases and i opt to book my profit with this.
Than why it is always said that?
“The option buyer benefits only if the price of the asset increases higher than the strike price”
and ” The Option Call can only be executed on the Expiry Day” when it is possible to exit even after few minutes of buying.
There are 2 things here – trading the premium and holding the option to expiry. If you intend to trade the premium, you can do so by buying and selling the option at anytime, at any frequency. However if you choose to hold till expiry then the lines ” he option buyer benefits only if the price of the asset increases higher than the strike price and ” The Option Call can only be executed on the Expiry Day” come into play.
It means I can book my profit even though the spot price doesn’t hit the strike price.Only matters is difference in premium if I square off my position before expiry.OTM,ATM and ITM matters only if option has to be exercised.
Absolutely!
If person A writes call option and B buys it, who after some time books profit and sells it to C who in the end exercises his right on expiry, then who pays C, Original writer (person A) or the last person who sold the option(person B)?
It would be between A and C. Person B just opened and close his trade, so he is out of the market.
Dear Sir,
On the expiry of Call option, if the spot price is more than Strike price, the difference is paid to the Option buyer.
or the Spot price should be more than the strike price+ premium paid, for getting the difference on settlement.
Eg. Strike Price Rs. 350 Spot Price Rs.355 Premium Paid Rs.6…. Lot 1000 Will I get Rs.(355-350)*1000= 5000 ?
Technically Spot being greater than the strikes qualifies the option as in the money, hence you as a buyer will get the differential money (settled in cash). However you will also have to recover for the premium you have paid hence Spot price should be more than the strike price+ premium paid for you to truly profit from the trade.
In the example you have quoted you will get 5000, but still end up making a loss of 1000 as you have paid 6000 towards premium.
Thank you for the fast and prompt reply…Keep it up…It shows the care Zerodha gives to investors..
Thanks!
hi sir
a small doubt. if i bought a call option at 3 Rs of strike price 100Rs. now the underlying is at 110 RS AND option price is 5 Rs.
now if i square off before the expiry date will i get 10 Rs(110-100) OR 2 Rs (5-3).
ANOTHER DOUBT to square off my open call option will i have to sell this option or i have to write call option(opposite side) to close this position.
You will get 5-3 = 2.
To square off your long position, you will have to sell it back, just like the way you do with a stock.
I heartly congratulate KARTIK RANGAPPA &ZERODHA TEAM HEAD MR KAMAT. for giving flawless knowledge about options . As I am trading in this section i have faced problems.1. when squareoff is pressed it is not taking order & blocked msg is appearing. then stl order is put so many times my order is skipped.with this loss occured. 2. usually after 15th of month nearing expairy even though share price is raising call optional rate is not increasing instead decrasing. with this innocent trader like me , expecting proposional rise but not happening. kindly clarify.
Ramesh, happy to know you like the content here.
I’m not clear about your first query. But the 2nd one – call prices not increasing even though underlying prices are – for this you need to read up on Delta and other option Greeks. I’d suggest you read according to the chapter number sequence to understand this best!
Good luck.
Interestingly in the jpassociate example, the strike price is lesser than the price of the underlying asset. So invariably if the price of the underlying asset remains at 25.90, would we still make a profit at our strike price of 25 or would we not make any profit since the options strike price also remains the same since it is derived from the stock price
Assuming you are talking about a call option, you would stand to make a profit of 90 paisa (25.9-25).
“option buyer cannot ask for a settlement (he cannot exercise) against the call option he holds. Settlement will happen only on the day of the expiry, based on the price the asset is trading in the spot market on the expiry day.” is it so? this means money will be blocked till expiry date.
However if you wish, you can book your P&L earlier.
Karthik sir, options chapters are simply awesome. For all these days I was trading in options just like we trade futures. Never knew there was so much stuff to this.
I have a couple of queries
Scenario 1: On expiry, strike price is greater than spot price
Lets say if I buy a call option at Rs 10 for a particular strike price 25 (For example) and on expiry the spot price of the stock comes down to 20 and premium price for call option is down to 1rupee, Now my strike price is OTM.
What happens if I dont close my position and leave it to exchange for settlement. Clearly am in loss but how much? Does exchange put a penalty on me for the extra loss apart from premium paid?
Scenario 2: Illiquid ITM strike price at expiry
On the expiry day I would select an ITM strike price which is highly illiquid for the spot price movement and buy the call option for 0.05 paisa and left it open. End of the expiry day lets assume that premium price stayed at 0.05 paisa and the difference between the strike price and spot price is 2 (As I have choosen ITM already) then do i get a settlement of (2-0.05) 1.95 per share?
1) If on expiry if your Call option strike is less than the spot then you will lose the entire premium amount paid. There if no penalty or anything as such
2) In this case you seem to have two different options, each option will be settled based on the moneyness of the option.
Totally confused with the answer for first scenario. Kindly check once again.
I hope the concept of “moneyness of options” is covered in futher chapters 🙂
If you are holding a call option, then you will be profitable only when the spot price moves above the strike price of the call. Yes, the concept of moneyness of options is covered in later chapters.
On expiry for a call option, if the spot price is more than the strike price, then the exchange will exercise the option and the buyer will get the difference between these two, but if spot price is less than strike price this option would expire worthless and the buyer will lose the premium paid.
True.
Sir thanks a lot , the topic explained very clear to understand
Welcome!
Dear karthick,
Suppose nifty spot is trading at 8600. I bought 8400 put option oct contract by paying a premium of 80. ( It means that, I am as a contract buyer have paid a premium of 80*75 = 6000 to the contract seller)
1. If spot price moves lower the premium of put option increases. let us say 85. So now If want to square the contract (which means i want to sell the already bought contract) I will sell the same at 85. Now here I become a contract seller, So i will receive a premium of 85 (75*85 = 6375). Difference in premium multiplied with lot size is my profit, so my profit is 375. Now the question is whether the trade is over ? or since i sold the contract to someone am i obliged to pay him whenever the prices move against me?
Also Tell me am I correct in every aspect of the above trade?
Yes, you are correct. Once you buy and square off the trade by selling, the trade is considered closed and you are out of the market with profits.
Hello Sir,
Can u please clear one doubt? As u mentioned, the settlement (or exercising the right) of the contract cant be done before expiry. But the open interest changes on a day to day basis. For example, yesterday OI was 2 lac and today it is 1 lac, so it means that 1 lac contact have been settled or closed. How is it done when when we have few days left for expiry.
There is a difference between ‘Contract Settlement’ and ‘Closing the position’. You can choose to close the position whenever you want, but one can only settle on the day of the expiry.
Many people have raised the same query, I’d suggest you read the comments section as well to get clarity. Thanks.
Very good material on options, very well explained.
Thank you 🙂
Will the change in the premium amount after I get into the options agreement affect me in anyway?
Yes, your profitability depends on this 🙂
Very nice work done by Mr. Karthick Rangappa. I read the first two chapters including the comments section and I can honestly tell you that never have i ever gained so much insight about how options really work..Really proud of you Zerodha!
Thanks for the encouraging words! Very happy to know that you liked the contents here 🙂
what is strike price how to calculate premium for option buy call
Check this – http://zerodha.com/varsity/chapter/sellingwriting-a-call-option/
Premium mention is for one stock or for one lot ??
1 stock.
Hi Karthik,
Thank you for this article.
You mentioned – “Trader A pays Rs.200,000/- (8000 * 25) to Trader B”
My doubt is, does Trader A has to have Rs.200,000 in his trading account.
No, all equity derivatives in India are cash settled. So you just need to have the cash differential.
Hi Sir,
Fantastic job done by you and Team Zerodha, I have read many books on Options but your efforts are worthy to make a layman understand “Options Trading”. I have a query.
“Squaring off” position means, after seeking profit or loss on basis of premium we can stop or terminate trade any time before expiry date. But “Option exercise” will happen only on expiry date. Only on expiry date profit, loss or deducted premium money will execute?
Thanks for the kind words Tarun 🙂
Yes, what you are saying here is correct.
Sir,
I have a question regarding the options trading. If I bought an ITC call option at 350 and sold it at 370 and booked the profits, if a trader exercises his rights, am i subjucted to cash settlement or am I out of the market? Will it still be a risk even after booking profits
Moment you sell your stock, you are out of the market. No question of settlement etc.
ideally, Options in India are European style, right?
Yes, they are all EU in nature.
What is the logic behind Eu style, is there any link in zerodha to read about it. please share
The only difference between EU and American style option is about exercising options. In EU you will have to wait for expiry but in American style option, you don’t have to 😉
Sir, what is in-money in option chain?
Check this – http://zerodha.com/varsity/chapter/moneyness-of-an-option-contract/
I have one question for you Karthik . How can a Trader B pays cash differential on expiry if he is only obligated to sell shares? Can you elaborate on he example as I am not able to understand how can a seller pays profit?
Cash differential will be accounted for from the margins you would have deposited for the trade.
who keep the premium amount at the end of trade?
The seller of the option keeps the premium.
call option
stock : SUNPHARMA
spot market price : 531.95
premium : 11.05
lot size : 700
strike price : 540
expiry : 27 june 2017
premiun paid : 11.05*700 = 7735
let us assume on expiry day i.e. 27 june 2017 SUNPHARMA trades at 540 and we exercise the option then we get
(540-531.95)*700 = 8.05*700 = 5635
SO IN THIS TRADE EVEN THE STRIKE PRICE IS HIT BUT AFTER PAYING THE PREMIUM OF 7735 WE EARN ON 5635 i.e. LOSS OF 2100.
am i missing something something here?
The call option will be profitable only if the spot is above the strike. If the spot is at the strike or below, then the call option wont be profitable. Further, assuming you want to hold the position till expiry, then you will start to make money beyond the breakeven point. Breakeven point is Strike + premium paid, which is 540 + 11 = 551….so spot has to move beyond 551 for you to make money.
call option
stock : VEDANTA(Intraday)
Buying Date: 05-09-17
strike price : 518
premium : 12.35
lot size : 3500
strike price : 315
Selling Date: 05-09-17
premium: 12.85
Spot price: 318
expiry : 28 Sep 2017
premiun paid : 3500*12.35= 43,225
premium received: 3500*12.85= 44,975
pofit from intraday premium=1750
I am in doubt is that would i get additional amount that is Spot price on time of Selling(318) – Strike price on time of Buying(315) = 3
Total= 3*3500= 10500 on the day of expiry, because my trade was “IN THE MONEY” Call option?
Please clarify me if i have missing something.
If you hold the option to expiry, then yes, the P&L will be based on the difference between the strike and spot.
“I am in doubt is that would i get additional amount that is Spot price on time of Selling(318) – Strike price on time of Buying(315) = 3
Total= 3*3500= 10500 on the day of expiry, because my trade was “IN THE MONEY” Call option?”
Can you explain in your awsome explaination technique Karthik by giving an example how profit can be made by this which Joyram asked
No Satyam, there is no additional amount here 🙂
Is that 318 or 518 strike price
I got one doubt, in call option, call writer has risk of unlimited loss. In the example, call writer has to cash settle and required to pay 56,000 /- or net loss of 56,000 – 10,800 = 45,200 /- to trader A.
Is there is possibility that call writer might default in this case, how does exchange ensure call writer to lock up sufficient funds in case underlying price rises, does it requires margin call for call writer every time the underlying price rises for call options.
When you write options, margins are blocked. When the position goes against you, so does the margin requirements. This ensures that the option writer does not default.
Dear Karthik/Team,
While answering to one of the above query , you stated that since Margin is blocked for any contract , especially the seller/writer of the options, there cant be a default . Is it right to say that “by unlimited loss to seller ” means that maximum loss a seller/writer of an option can make is the margin money that is blocked and that is already known before getting into the contract ? .
No Guru, the margins can increase based on the movement in the stock.
sir
suppose i buy one lot of nifty 1300 pe/ce @ 65 / for the current month and my premium paid is assume as rs 4875. and i close the contract with 10 points profit. what will be the amount i receive ,the reward for 10 points only or my premium 4875+ 10 points reward as a new one i have this doubt or should wait for a decent profit above my premium value. please explain me as we express we are in 10 points profit and nothing is spoke of the premium.
You can book profits for any amount you are satisfied. Like 3 or 5 or 10 points…or wait for more gains.
Sir, if i buy call/put by paying premium of X amount and next day if premium increased then can i square off my position? I wanted to ask is there “T+2” condition for options also?
Yes, you can. No T+2 concept in derivatives trading.
Thank you so much..! 🙂
Cheers!
I believe time to expiry should not play a huge role in premium price for European options(beyond adjusting for risk-free interest rate). The language you used for the 1 acre land example, of ‘something happening’ within a timeframe, seems more suited to American options unless the frequency of (positive and negative) ‘events’ is so low that the probability of a single event happening in a timeframe is far greater than of two events happening.
Time does play an important role here. Will the premium not increase if the likelihood of an event increases, especially in the backdrop of ample time? Now, imagine the likelihood increasing, but with very less time to expiry? How will the premium react?
Hi Karthik,
If I’m buyer of the of the option contract and it’s price ended in profit after deducting premium. In that case I want to exercise the option contract. So, how shall one do that? Is that automatically the close price on the day of expiry is taken for the cash settlement? Or Is there some procedure to exercise option contract?
The exchange will do the settlement for you.
In NSE option chain, I see expiry for Bank Nifty as Jan 11, 2018. But in Zerodha F&O Margin calculator, the only available value in the symbol drop down is ‘BANKNIFTY25-JAN-18’.
Why is Zerodha F&O Margin calculator not showing BANKNIFTY11-JAN-18? Alternately, why is NSE even displaying expiry as Jan 11, 2018 if all expiries are on last Thursday of the month?
The Jan 11th Bank Nifty is a weekly expiry contract, which is not shown in the margin calculator. Our margin calculator only shows the monthly contracts.
Oh ok thanks!
Lot size is same in futures market and option market ?
Yes, it is.
No knowledge on option trading
I have one quick question
strike rate is 10300 nifty
nifty is already trading at 10290
so i can do put option and make a profit as it is already down. please let me know if my understanding is correct
Well, it depends on what position you intend to take. You can buy 10300 PE, but to make money, Nifty has to fall further on. Or you can sell 10300 PE, and for you to make money, the market has to go up.
I’d suggest you spend more time learning about options.
Good luck and happy learning!
hi karthik
Date on 28/03/2018 i buy 3 LOT option of FORTIS Strike Price Is 140 the premium amount is 0.05 and the Spot Price is around 128
expire date is 26 April 2018.
total premium amount is 3500*3*0.05= 525
end of the day the premium amount till 0.05
and next 4 day Holiday the stock is showing open position in q.zerodha.com but not showing in kite TT
and date of 02 April 2018 stocks are not showing in both TT
my question is what happen with FORTIS stocks the expire date is 26 April 2018
what about my premium amount .
Venkatesh, please check the positions tab, you will be able to see the position. Else, I’d suggest you call our support desk for this. Thanks.
can both buyer & seller close option position before expiry?
Yes, they can, Ranjan.
Sir,
I purchased a Call Option of XYZ at strike price of 100 at a premium of 5. (Lot Size 1000)
1. At the time of purchasing , I have to give only 5000.( Plus charges if any.) Am I right?
On the expiry day morning XYZ is trading at Rs 120.
2. Whether I have to sell my Option contract before end of day if if don,t have 100,000 (100 X 1000) in my trading account.?
3. What will happen if I allows the contract to expire with hardly any money in my account.?
4. if XYZ is likely to close in 104-106 range what strategy I should adopt on expiry day..will the contract automatically exercised and will that cause a big loss due to STT.?
Thanks in advance.
1) Yes, it would be 5K plus charges.
2) No, you can just sell it and pocket the difference in the premium
3) Nothing really, but its best you sell the option before expiry to avoid high STT charges
4) Yes, hence its better to exit before expiry.
thanks sir
your lessons are simply amazing.
I had read many articles and watched many videos about options. But all in vain.
Now its a different story.
Thanks a lot…
Happy to note that, Siju!
Keep learning 🙂
Sir , one more doubt.
In case 4 if there is no buyer on expiry day for my contract what will happen? it results in a huge STT loss. right? how can I tackle this?
Not to worry, the exchange will find a counterparty and settle the contract for you.
Sir
On expiry an option is exercised when the spot price on expiry hits strike price, not break even point. Am I right?
If the spot price on expiry is between spot price and break even point or even just cross BE point), then we will not get any profit, but we have to pay a good amount as STT. resulting in a negative balance sheet. Is it so?
How much is the STT percentage?
If I want to settle before expiry, a buyer for my CE should be there. Right? If no buyer how can I square it OFF?
Thanks.
You can settle before expiry – meaning you can buy and sell options anytime you wish. No need to wait for expiry. Check this – https://tradingqna.com/t/no-more-stt-trap-on-exercised-in-the-money-options/18977
Hello sir
I have one small question.
At the time of expiry day, are option prices calculated based on spot price or future price?
And
Which price? Last trading price or wvap ?
Thank you very much
Spot prices. The settlement is based on the weighted average of the last 30 minutes of trading.
Hello kartik,
My question is again related to the expiry, I have understood that if one wants he can book profits any time before expiry (all thanks to you). But now my doubt is if the underlying price(current market price) goes above strike price in that case only the buyer cannot claim for the settlement.He has to wait till the expiry.Right?
No, irrespective of the price, he can book profits anytime.
Hello Karthik,
Thanks for the good article. From your article, I have taken the below, it says one cannot go for settlement or book profits before expiry. But in actual one can buy an option contract today and can sell any time before expiry. What do you mean by below? Confusing to me. Kindly clarify.
“Hence, assume with 15 days to expiry one buys ITC 340 Call option when ITC is trading at 330 in the spot market. Further assume, after he buys the 340 call option, the stock price increases to 360 the very next day. Under such a scenario, the option buyer cannot ask for a settlement (he cannot exercise) against the call option he holds. Settlement will happen only on the day of the expiry, based on the price the asset is trading in the spot market on the expiry day.”
Settlement here means the value of the option upon expiry. You need to note that the settlement of the option as per the expiry is one thing and selling the option to gain from the difference in premium is another.
In simple words, you buy an option at a premium today, you can sell it anytime, including the very next second. The profit or loss you make is the difference between premium. On the other hand, you can buy the option today and hold it to expiry. If you do so, the profit or loss is dependent on the value of the option upon expiry aka the settlement price. Hope this makes sense 🙂
When i square off the position before expiry (let’s say today) when does the profit/loss credit to account ?
The P&L is settled the same day, Arun.
Very nicely explained.
Thanks a lot.
Welcome!
I was going through the following link-
https://support.zerodha.com/category/trading-and-markets/trading-faqs/articles/additional-surveillance-margins
Can you tell the new margin (post 14th sept.) required for selling Nifty puts? I tried calculating using the zerodha margin calculator but it appears to be giving the margins applicable before 14th sep (or maybe I’m wrong).
Thanks!
Thanks for the great content.
Well explained for newbies.
Could you please clarify the following:
In the Buy Call Options examples,
the interest cost doesn’t appear
to have been factored. Like in the
JP Assoc example the profit is said
to be Rs. 45,200.00 (56,000-10,800).
What about the interest cost on the
Premium of Rs. 10,800 from 15th to
26th March?
Thanks
There is no concept of interest here.
Hi,
I request your answer for following questions.
1.If I have call option in illiquid stock, what happen at expire, if I dont what to exercise settlement?
2. What happen on expiry, if I have option with stocks which are not listed by NSE for cash settlement (announced from July18), will be get squared off, with out settlement?
3. I have account with zerodha.Will zerodha does auto square off for option before expiry, if so before how many days?
1) It will be settled at the settlement price on expiry as long as the intrinsic value is higher than STT paid
2) For long call you will have to bring in additional margin for taking delivery of the stock. More on that here – https://zerodha.com/z-connect/tradezerodha/policy-on-settlement-of-compulsory-delivery-derivative-contracts
3) Nope, we dont, unless its a short option and you are running low on margins.
Thanks for your clarification. Request you to clarify how to find IV is greater than STT paid. IV is know and how about STT for settlement.
STT on options sold is 0.125% of the contract value. You will have to deduct this from IV. Check this – https://zerodha.com/z-connect/queries/stock-and-fo-queries/stt-options-nse-bse-mcx-sx
Hi,
Request you be explain how cash settlement works.
1. Is it only transfer of money or transfer of shares.
2. If I have option which is not in ITM. What happen a expiry. Can I leave it for auto square off by exchange?
3. If I have option in ITM and not looking for settlement to avoid STT and unable to square off due to illiquid. Either I need to intimate zerodha or exchange for not processing settlement and what is the process for same
1) For cash settlement, everything is cash settled, hence you need to bring in cash. For physical delivery, you need to bring in stock or cash based on your position, check this – https://zerodha.com/z-connect/tradezerodha/policy-on-settlement-of-compulsory-delivery-derivative-contracts
2) Yes, the option will expire worthless and hence you will get to retain the entire premium
3) If you are unable to square off and ITM option due to illiquidity, then I’m afraid your position will be settled at the settlement price, as long as the intrinsic price of the option is higher than the STT payable. If it is lesser than that, then the option won’t be exercised.
Hi,
My request is, as I could see lot of queries on settlement and new rules by NSE on cash settlement, like to have seperate module/ chapter explaining the same
That makes sense, Yuva. Will try and do that. Thanks.
Hi Karthik Rangappa,
Your way of explaining the options was simply super.
Probably this was the first book which I went through from the first to last page with ease.
Kudos to you and your team.
I have been trading Nifty Options for few years with no knowledge, at times I made good money and at times I lost them badly. Reading through the book has shown me the reasons for it.
I have always traded in Nifty Option CE buy only for small profits on day to day ( when ever I see a chance) of 3k to 15k, but never trading in CE sell.
Pls clarify me on CE sell :
1.If opt to sell a CE of Nifty say 10300 at LTP of 55.25 at 14:00 hrs – here I am not paying anything , but margin amount will be blocked from my account
2. If the short/ sell at market when LTP at 53.25 at say 14:45 hrs- I will receive
(55.25-53.25)= 3* 75 = 225 , which will credited to my amount after deduction of taxes etc. and will be no other liability and margin amount is released from my account.
Hope my concept is clear and same is applicable to PE sell also.
pls clarify
Thanks & Regards
Rao
Thanks for the kind words, I’m really glad you liked Varsity 🙂
1) Yes, only the margin amount is blocked
2) If you short again @ 53.25, you will be essentially 2 lots short. If you want to square off, then it will be 2 lots short. By the way, there is no deduction of taxes here.
Hi, how can I buy call and put option from your Android app? Is it possible? If yes, please guide me step by step. Thank you!
Yes, you can. Kite android is super intuitive, once you download the app you will see the marketWatch, works just like the way it does on the web.
Mr. Karthik,
I am getting confused regarding squaring of Long Call. My understanding is like this:
1. Suppose I buy one lot of xyz Call option at Strike Price 200 Premium 10. Before expiry if the premium for XYZ for the same strike price is 12, irrespective spot price, if I square off I will get profit of 12-10 =2x lot size.
2. If I allow it to expire. On expiry the Spot price is 212 if my Call is ITM, I Get profit of (212-200)x lot size = 12x lot size – premium I paid, irrespective expiry day premiums of the strike price(200) I purchased and premium Spot(212).
3. My understanding is if you short before expiry the P&L is difference in premiums of Strike Price. On expiry the P& L is the difference in the strike price and spot price minus premium paid.
Please clarify.
1) Yes, you will
2) Yes, but be aware of the STT implications – https://tradingqna.com/t/no-more-stt-trap-on-exercised-in-the-money-options/18977
3) Yup
Hi sir
Profit loss strategy or calculation
Example for call writing
Sure, its explained in the chapter itself.
Hi Sir,
Very nice Explanation Sir.
Sir wanted to know one thing. As a beginner one can start doing positional trading or BTST/STBT in OPTIONS, instead of doing it in futures ,
Thanks,
Manish
Yes, Manish, you can.
Hi,
I need to understand following things:
on date of expiry, In morning IF I buy NIFTY call at SPOT Price: 11000 at premium of RS. 0.05 consider 1 lot and Nifty rose up to 11100 and I am failed to exercise due to unknown reason.. How much Loss I have to bear due to STT and all other charges if its exercise by exchange?
2) How can I protect my self from STT Trap? If I am unable to exercise my call due to unknow reason or there is no buyer.
—
Thanks
Prakash
1) In this case, you will make nearly 100, and lose close to 20 points on STT, so you will make a profit of nearly 75 -80 points.
2) The easiest way is to square off the position just before the expiry.
Hi Karthik,
Thanks for reply.
in 2 Case: You said that square off position just before the expiry, its sounds good but if there is no buyer, am I eligible to square off? if yes then how much profit or loss I can get if Spot price > Strike price?
I have read lots of articles on google where it says you can ask for ” don’t exercise” at the end of expiry. is it true? how can I place request in Zerodha Platform? and how much I loose if this is possible?
How much time will take to open my account in Zerodha?
—
Thanks
In that case, the exchange will do the settlement for you and paying STT upon ITM option is unavoidable. If the option is ‘Close to the money’, then the don’t exercise option is applicable and therefore STT is avoided. The broker takes care of this automatically. But I guess your example was deep ITM, wherein this is not applicable.
As shown above in ITC example, underlying value is 336.9. i buy call at 350, so i’ll have to pay 2.2*1000=2200 right?
will 2.2 become 13.85 if price goes up to 350?
what happens if underlying price increases to 348? do i make profit?
can i exit the call before expiry?
is squaring off and selling the same thing?
if i buy first and need to square off, do i need to have margin in my account?
1) will 2.2 become 13.85 if price goes up to 350? —–> yes, 13.85 will be the minimum value of the option, provided there is ample time to expiry
2) Yes, you will make a profit if there is still time to expiry
3) Yes, you can exit befor expiry
4) Sq off means you are closing an open position. If you are long, sq off means to sell it. You an create a short position which is also called as selling, so if you sell first then the sq off for that is to buy back.
alright. so when i buy first and sell later, do i need to have margin in my account to sell?
Yes, you need to have sufficient funds to take the trade.
1.Can we square off an option on the day of expiry or will it be considered as deemed exercise and will subject to STT.
2. Suppose I bought a call option at 15rs premium. Now on the day of expiry the spot price was less than strike price so I decided not to exercise but at the end of the day market rallied and the option expired 2rs above strike price.
So my question is will it attract STT?
1) Yes, you can sq off on the day of expiry
2) It does not matter where the option expires. Upon expiry, the strike has to be above the spot for your call option to be profitable
3) If you let a profitable, ITM CE expire, then there is STT.
Hi sir, in the above e.g. You gave.. Trader A is paying 10,800 as premium. On expiry he’s gaining 56000 in which real profits is 45,200. But in case of trader B.. He’s giving 56000 to trader A.. Then where is that premium amount gone?? Will it go to trader B? In fact so that on expiry trader B’s loss is 45,200 not 56000?? I’m I right or it’s different scenario sir??
Bala, the money flow always happens between the buyer and seller. The seller’s loss becomes the buyer’s gain and vice versa.
In the trader A and trader B example,why will B pay for A profit, and if he does that then Trader B will have a loss ie. 10800-56000= -Rs 45200.
It is not a profit yet, Kamal. At this point, they are entering the agreement, the profitability depends on how the price moves.
in case if the buyer wants to exercise his right on expiry date then how the settlement will take place.? is there any possibility that a writer has no shares in future Contract yet he short sell in Options? how the transaction will flow and how the settlement will get done then?
The settlement is moving to physical settlement. Check this – https://zerodha.com/z-connect/tradezerodha/policy-on-settlement-of-compulsory-delivery-derivative-contracts
Under call option, please answer the following
1. How can call option buyer and call option write can exit from their open position before expiry?
2. what happens on expiry between them if they are not able to exit their open positions.
3. if call option write doesn’t have enough money in his account to pay the price differential as profit or actual delivery of
stocks to call option buyer , then what happens?
4. who is more interested to buy existing call option of an ”existing writer”??
5. Can you present an entire scenario of multiple ( 5 buyers and 5 sellers ) call option buyers and sellers ( writers ) with their their role reversal
1) They just have to square off their positions and exit it completely. There is no need to wait till expiry
2) The contract will be settled based on the settlement prices
3) The moment money the losses exceeds the margins blocked, the position will be squared off by the broker, unless the writer funds the account with more margin
4) Whoever is more bullish (for the call) or bearish (for the put)
5) Not in an exact manner, but have explained this across various chapters in this module.
Hi Karthik,
Thank you very much for guiding us so well about Options Trading.
I have one query suppose I book my profit before expiry then in such case Profit get subtracted from premium amount ?
And How premium works in zerodha ? Do we need to pay premium before expiry ?
When you buy options, you need to pay the premium upfront. If you make a profit, it will be over and above the premium you’ve paid.
Hi Karthik,
One doubt need you clarification on it: As you said “Here is an important point to note – you can exercise the option only on the day of the expiry and not anytime before the expiry”. So if I need to exit from contract on the day itself or later in few day but before expiry , so will it possible or how it will work ?
Really nice explanation. Thanks for sharing such knowledge in simple words.
You can exit anytime before the expiry. There is no question of exiting after the expiry as the contract would have ceased to exist.
Dear karthik. First of all Happy diwali to whole ZERODHA family. I have one question related to the new rule made b SEBI which is related to physical delivery. I am asking this question in context of both futures market and option market. Suppose there are two traders trader A and Trader B. On the first day of the month trader A buys a call option of a stock X with lot size of 1000 and a premium price of 10 when spot is at 90 with a strike price of 120. And trader B has sold this position to trader A. Now i have some questions. Please try to answer even if questions sound stupid. 1. According to this contract the trader a has paid a premium of 10000 and trader B has received a premium of 10000 in his account . am I right or not. If i am right, can trader B who has received this premium from trader A of 10000 Rupees can use these 10000 rupees for buying any other position which is related to any other stock in the market and not X script. 2. Now if both of them want to exercise this option so accordingly on the last Thursday of the month the trader A will by 1000 shares from trader B and suppose trader B does not have these 10000 shares with him so does Trader B has to buy 10000 shares from the cash segment market and deliver it to trader A or how he has to proceed if trader A wants to take a delivery and there is no liquidity in the market and there is no other market participants who is selling these shares.
1) That’s right, the buyer of the option pays the premium and the seller receives it.
2) Yes, he can
3) Both of them cannot exercise the contract. Only the buyer can. Seller is obligated. As per the new physical delivery policy, trader B will have to own the shares as he comes closer to the expiry. Else his position will be closed.
Dear Karthik,
Currently underlying price of ICICI Bank is 469.20. Suppose I buy call option 31 Oct Expiry of ICICI bank @ strike price 450 at premium around 24 then i need to pay 33000 for 1375 shares.
But now suppose ICICI trade @ 490 before expiry then my profit would be around 53,800-33000=20,800.
My question is is it allowable to buy share @strike price (450) which is very low as compare to Laste traded price(469.20) ?
Yes, you certainly can, Sanket. No issues with that.
Hi Karthik,
Basically as and when the strike price increases, the premium decreases. as the buyer is taking more risk. right?
Thats right, you can generalize this by saying that the premium reduces as the strike moves away from ATM and goes OTM.
Hi Karthik,
The premium of an options is dependent on two factors
1) the underlying asset value
2) expiry date of a option lot
is there any other factor?
Also can you tell about more possibilities here , like one is ” even when the value of underlying asset is increasing the premium of call option might not increase, even though its far away from the expiry date” reason can be high volatility of the underlying.
Neha, not just that. It depends on others too. They are all discussed in the Greeks subsection. I’d suggest you read through this to get a full understanding of how option premium behave.
Hi sir
I have simple question..
Premium of option=Intrinsic value +Time value
It has been written that Time value can not be zero
But sometimes it becomes
On 9 Jan BN spot 32145
BN 32100 CE @ 41.5
So formula is
41.5=45+time value
It means time value must be negative
Actually it happens many times on day of expiry mostly after 2:30
So it means many factors depend upon Demand and supply , psychology of traders etc
One more thing some people say Time value in American options can not be zero but in European style can be
Please comment
The time value cannot be zero or negative. I guess this was mispricing, which I guess did not last long.
In this chapter it’s mentioned that settlement of options can happen only on expiry. But later chapters mention about squaring off of positions..
Is it not contradictory?
What understanding am I missing here?
Settlement upon expiry and trading the premium are two different things. You can buy and sell options any time you want and profit from the difference in premium.
[…] I have used few Jargons in this blog, for better understanding kindly go through this. […]
[…] 2. Basic Option Jargons […]
Varsity is nice but in the varsity app this section is mismatched (Basic Option Jargons[Chapter 2] > Options Settlement> Card 11) so it was completely confusing. Here you exampled of JPAssociates only but in app first you spoke about IDFC (On card 11)and merged in JP associates(Card 12) so it was not making sense properly after visiting this page it makes sense to me. I would like to request you to update this info in varsity app also. Also it would be awesomely great if you can add Takeaways also as a Takeaway cards in the end of the every chapters.
Because personally I felt that Varsity app is more fun to learn because of those unique quiz.
Thanks for the so much informative app.
Need to check this, thanks for pointing.
Hey,
How much is the minimum money is required to enter into the option trading?
The premium amount of the strike is the least required, Vignesh.
Sir
I have following queries:
1. Why there are some stocks whose derivatives (F&O) are not there ?
2. What is the criteria for a stock to have its derivatives (F&O) ?
3. Can it be possible for a stock that its OPTION is there without FUTURE or with FUTURE without OPTION ?
4. How lot size for a stock option/future is decided?
5. Can lot size of future and option differ for any particular stock?
Thanks and regards
1) Stocks have to pass through few trading criteria to get included in F&O.
2) Check this – https://www.nseindia.com/products-services/equity-derivatives-selection-criteria
3) Nope
4) Check this – https://www.nseindia.com/products-services/equity-derivatives-contract-specifications
5) No, its standard across F&O
Sir
You said that options can be exercised only on the date of their expiry, not before that. But in real trading scenario, how one can sell his call option anytime before expiry (in the context of call option) ?
Regards
Exercise is on expiry, but you can trade whenever you want. Trading and exercising are two different things.
Sir
1. What is the basis behind to have last Thursday of every month as the settlement date in case of F&O ? Is last Thursday followed the world over or it differs from country to country ?
2. In India, derivatives are cash settled. Is there any nation where the derivatives are physically settled ?
Thanks
1) Nope, its just a India thing
2) In India stocks are physically settled, indices are cash settled.
Hi, Firstly thanks for nicely explaining the concept. As I understand one can sell the option even before the expiry date and need not wait for the last day of expiry to close the contract? I buy a call option at Premium X and when I goes to x+delta the same day I can sell it off. So when u say exercising, are you referring to the same?
If you let your option position go into expiry, then you are exercising your position.
I had a call option for a strike price of Rs 100/- with a premium of Rs 10/-. Let’s take a case wherein some bad news on the stock and it went down by 20%. In this case, my loss would still be capped at the premium amount I paid even if I forgot to square off the position?
Yes, as a buyer your loss is capped to the extent of the premium paid.
Hi karthik,
I have few doubts not related to options though,
1) When i opened account with ZERODHA , they also got my demat account opened. So now this demat account , is it linked to zerodha account or to my primary bank account?
2) If i open account in some other bank , then can i open another demat account with that bank?
3) or can one person have only one demat account no matter how many bank accounts he has?
4) so does that mean one person can link his single demat account to any number of bank accounts?
5) suppose i open another trading account with some other broker(with different bank account),then will he create new demat account or i will have to provide him the details of the same demat account which i have with zeordha?
1) Trading, DEMAT are linked. Trading and bank account is also linked. Money flow happens between your linked bank account to your trading account
2) You can, but a DEMAT account along is useless.
3) YOu can have many
4) One to one only
5) You can link, but its better if you open a fresh DEMAT.
Hi Karthik,
Do index options have weekly and stock options have monthly expiry i.e. Thursday of every week for indexes and last working Thursday for stocks?
Bank Nifty has weekly, stock options are monthly. Monthly expiry is the same for both stock and indices.
Hi Karthik,
Thanks once again. Based on my understanding buyer would pay only the premium if the price is falling and seller has to pay the difference of price in case if the buyer is exercising the contract. Here seller is getting only premium but paying more money during the expiry (exercising the contract)
But you have mentioned that statistically seller makes more profit in options, Is it because, the buyer often call of the contract so the seller gets the premium? Please correct me if my understanding is wrong
That’s because out of the 3 possible outcomes, 2 favor the seller.
If i used leverage for buying option then how much interest rate is for used leverage?
There is no interest for the leverage provided.
Hi Sir,
Can you please explain the process of exercising Intraday Options?
For Example, If I purchase Intraday UPL 370 Call (1900 lots) at premium of 5Rs., and the price at 2.30 pm today went to 400.
Then in that case, will I be able to settle the option at 2.30 pm with profit of [{(400-370)*1900}-(1900*5)] ??
If not then please explain.
There is no exercising on an intraday basis. You can sell the position anytime, your P&L will be the difference between the premium.
Thanks Karthik for explaining in such a simple language…Understood most of the concept wrt to call options…I just have one doubt…In the example of Ashok Leyland, The Underlying Price is 71.70 and the strike price considered is 70..then how is that a call option as by definition of call option , we expect that price is going to go up in the future which means Strike Price will have to be higher than that of underlying price.. pls clarify…
The spot price has to be higher than the strike in case of a call option, Ravi.
When I tried doing a protective call strategy (buy call and short future on banknifty) yesterday my margin blocked was about Rs. 18000. Today when I tried doing the same strategy Rs. 28,000 was blocked. In both trades is bought ATM calls. Why was the required margin increased for todays trade?
Change in SPAN, which is based on volatility.
Hello Please update the information as Sebi changed rules from cash settling to delivery based settling.
You have mentioned this in one of the comments, it would be helpful in the main content
Prashanth, are you talking about physical delivery for futures and options? If yes, do check this – https://zerodha.com/varsity/chapter/quick-note-on-physical-settlement-2/
Hi, can you please also mention the increasing margin requirement by Zerodha few days before expiration of an option?
That is to cover for physical delivery, please do check this – https://zerodha.com/varsity/chapter/quick-note-on-physical-settlement-2/
Sir,what is the best free options strategy builder app
Monu, I’m not sure about free ones, but this my favourite – https://sensibull.com/
THANK YOU SIR
Welcome!
i think this module needs to be updated, as we have weekly expiry of options.
I have 1 question – do we still follow cash settlements in India?
No, we have physical delivery. Check this – https://zerodha.com/varsity/chapter/quick-note-on-physical-settlement-2/
Hi Karthick, Thanks a lot for the great material. Kudos to you and the team.! Can you help with Notional value in options trading as i can not find it in tutorials. Following data is from nseindia.com today evening for NIFTY index options expiring today at strike 11000.
Traded Volume (Contracts) 1,04,870
Traded Value (₹ Lakhs ) 13,948.23
Traded Value – Notional (₹ Lakhs ) 8,79,125.73
VWAP 177.34
Market Lot 75.
I found out equation for, Traded Value = VWAP * Traded Volume * Market Lot. But i am not clear how to get Traded Value – Notional from these figures? Please help. Thanks again for the materials
Notional value = lot size *(strike + premium).
Thanks a lot Karthick for your time. for other readers, Multiply Notional Value with Traded Volume It will give you Traded Notional Value. Thanks & Happy Trading
Happy reading!
It is said in the above article that “you can exercise the option only on the day of the expiry and not anytime before the expiry.”
If I am correct, in India the options we trade are with the style “American” and not “European” where the buyer can exercise the option at any time before expiry, so I am surprised to find the above statement in this article where they said Exercise is allowed only on the expiry day.
Please help me understand this point.
No, all options in India are European in nature, check this – https://www1.nseindia.com/products/content/derivatives/equities/contract_specifitns.htm
Sir ,
Today I go through your fantastic lessons on option trading . I have one query that today CMP of Escorts is 1155. I think it will go 1180 within 30th Aug. That means I should now buy escorts @ premium Rs. 33. lot size 1100 shares .
Then my query is :-
1) If really escorts will touch Rs.1180/ -what will happen for me ? How many rupees shall I profit ?
or
2) If the Escorts go upto only 1170 within expiry – then what will happen ?
or
3) If the share price will fall in 1125/ , then what will happen ?
1) Profit depends on the prevailing premium at the time of selling, hard to say how much it will be
2) & 3) Same as above.
The point is that estimating the premium value before expiry is tough. At expiry, it is simply the intrinsic value.
This is option trading explained at its finest. The concept is clear and easy to understand. I am new to trading and this article helps me a lot to understand and clarify my doubts. Kudos to the author of this article.
Happy reading, Zama. Hope you continue to enjoy reading the module 🙂
sir, a great job. things are getting clear with your examples. I have a querry.
As you said that a buyer can book p&L any time but cannot exercise the agreement. suppose I have paid a premium of underlying infosys at strike price 2200/-. And after two days infosys price is 2250. can i book the profit.what is the
difference between booking the p&l and exercising the agreement.
Yes, you can book the profit, not an issue.
Sir, for years I have been wondering how to learn derivatives trading. But after I read your notes, I think I can rely on your help and proceed to trade. Thanks a lot. The complex issues are made very easy to understand even by a layman. Thanks a lot again.
Happy learning, Prakash. Will be happy to help you through your learning journey 🙂
Can I excercise call option before expiry, if price exceeds strike price ?
No, not possible since we have European options in India.
Hi,
This varsity is superb….thanks for putting it together.
Would love if you can have online interactive tutorials for first timers and esp kids.
Thanks for the explanations and replies to all queries.
Pls help me understand the following:-
1) If premium is lesser when closer to expiry then why would one buy beforehand ??
In your JP Associate example the premium on 18/3 is 1.35 for 26/3 expiry so what would be the premium on 08/03 and what would be the premium on 22/03 ?
Which will be more beneficial to whom and why ?
2) What would be the difference in futures and options ? Can you compare with some example of same company same expiry please
Thanks in advance
1) The premium depends on the stock price as well. So your decision to buy or not really depends on your expectation of stock prices.
2) I cant cover this in the comments, request you to read the respective modules 🙂
Sir,
if we square off the option contract instead of holding it till expiry (exercising the option ), don’t we lose the real profits of options(unlimited profit on expiry)?
isn’t playing on premium becomes like normal equity trades(normal profits)?
Thats right, you trade just the premium.
Thanks, Karthik.
as you confirmed options are just game earning from the premiums of the option chain. can you explain by a short example of why options are so famous?
how traders books higher profit in this then equity market?
Thanks again and you are doing an incredible job.
Ganesh, options are popular because of the their asymmetric pay off structure. Hard to explain in an example, I’d suggest you read up the module to get a complete view 🙂
is that 25 premium ? or strike price as mentioned above ?(last example of JP )
Dear Sir,
How to square-off the Call on Mobile app like Kite in Zerodha?
I’d suggest you call the support line for this, easier to explain this on the phone.
Thanks Karthik!
Cheers, happy learning!
I hope this works!
Since 2018 options on expiry may result in delivery if not settled in cash. This article was written in 2015. Please update the information.
We have updated and put up a note on this – https://zerodha.com/varsity/chapter/quick-note-on-physical-settlement-2/
In this chapter, it is mentioned “To be precise there are 5 factors (similar to news and time) that tends to affect the premium.”
but there are only 4 option greeks, is there any 5th factor ?
The last one is rho, which I’ve not discussed since it does not have an active impact on the premium.
Options are now physically settled or cash settled or both?
All stock options are physically settled. Check the last chapter.
hello Kartik,
since you mentioned that we should not let written option to exercise on his own if it is profitable. Regarding this , i have below queries.
1. How much STT will be levied on such written option if we let it to be exercised by exchange ?
2. If we square off position(written option) by our self then we may not get to retain full premium. how to tackle this problem?
3. Is there any STT charges on long options if let them to exercise by exchange? if yes, how much?
1) STT is 0.125%. DO check this – https://zerodha.com/marketintel/bulletin/230019/no-more-stt-trap-on-exercised-options-from-today
2) If you have written an option and its expiring worthless, then nothing to worry if you let it expire right?
3) No STT here.
american or european options in india
Which type used in India _?
How they are differ ,can you please explain
We have European options in India.
Sir what do you mean by anchor price?
Hi Karthik,
Please clear this doubt for me.
Lets take the below scenario:
Ram buys a December Call Option of BANKNIFTY(currently running at 29600) for a derivative value of 600. Since lot size is 25, premium paid by Ram to enter contract is 15000 which will be deducted from his funds.
Now Ram sees that BANKNIFTY crossed 29700 and so did the derivative price from 600 to 800. But there is still time for expiry as expiry is at last Thursday.
1. Can Ram Sell/Square-Off his option contract at derivative price of 800?
2. If we could Square-Off at 800, what happens to premium amount of 15000?
3. What is the Net profit for Ram? Is it ((800-600) x 25) – PREMIUM= -10000 OR Is it (800-600) x 25 + PREMIUM = 20000 (5000 PROFIT)?
1) Yes sir
2) You get back 20K, which includes the premium of 15K plus a profit of 5K
3) 5K is the profit i.e. 800-600 times the lot size.
Hi kartik….Nice explanation…….Just have one doubt…..
Suppose I buy a call option of ABC company having premium of Rs. 5, strike price 110, lot size 1000, Current Market price of share is 100. On the day of expiry the share price will be Rs.130 and i exercise my right to buy. In that scenario do I have Rs. 110000/-(110*1000) in my trading account to purchase the shares at Rs. 110/share or the differential amount i.e. Rs.20000/-(20*1000) will be paid to me by the seller? Please clarify.
The contract will be physically settled, hence you get to buy the stock @ 110.
Thank you for clearing my doubt Karthik.
So if squaring off before expiry would give us profit then why don’t all traders buy a call option with higher strike price which is not actually possible for spot price to reach? Because that would help trader pay less premium as the strike price is very far and it is unlikely for spot price to reach within expiry.
And considering your previous answer to my previous question, call option buyer squaring off with even small difference of of LTP would give him profit benefit as premium is returned back to him.
Please clarify.
You can, in fact, many traders do buy OTM options. But do remember, the position will benefit only if the premium moves higher from your buy price (at or before expiry), else it will expire worthlessly.
hi Karthik, you are genius…Thank you for your wisdom, I have an another query that ” is that possible the stock price and paid premium may move in reciprocal directions? Eg. Spot price of stock crosses the strike price but paid premium to buy that particular stock moves downward from Rs.5 to 4 ,3 and so on ..
That’s possible too, because the premium is not just depended on the stock price, but also on other factors such as time and volatility.
Is this statement Still true about settlement in the literature above ? ” if Trader A decides to exercise his agreement. However, this does not mean that Trader B should have 8000 shares with him on 26th March. Options are cash-settled in India,”. Can you confirm if the settlement is physical delivery of stock or still cash settlement?
This is no longer true, please see the last chapter in this module for the updated info.
this question is related to Rama Devi question. let us say i buy NIFTY at strike price of 14000 but the market is at 13750, can i sell this contract to someone else to reduce my loss
Yes, you can. No need to wait to expiry.
Suppose I buy Call Option today and I square-off my position before expiry.
Now, futures & options are physically settled, right?
So at the day of expiry, will I be required to take delivery of underlying from the person whom I originally bought and then deliver it to the second person whom I sold? Or it will be directly done between those two and I’m out of this?
No, once you square off the position, there is nothing more to worry about.
can one buy both ce & pe for the same instrument simultaniously , and what are the scenerio
Yes, you can buy that. No issues.
Hi Karthik!
The work you and your team are doing is simply superb and deserves a lot of respect. Thank you.
It will be great if you can answer my question! I can’t get answers to any of the questions on google or any forums.
1. Would it make sense to square off your position being an options buyer when you can be potentially exposed to greater risk being an options seller?
2. If you do square-off your position as a buyer then wouldn’t you stay in the market/trade as a seller till 3:15 pm and be exposed to further losses if the trade reverses?
3. How often does an options buyer square-off his/her positions on intraday?
4. How would Zerodha square-off all open intraday positions at 3:15 pm. Suppose if i am a seller and losing money at 3:15 pm- would Zerodha find an appropriate buyer at that limit price and/or market price and handover/exchange the contract to him/her?
5. Suppose you are an options seller when you initiate the trade and if your stop loss hits, then you would just pay the premium at that price and turn into a buyer. Being a buyer now, are you still in the market/trade till 3:15 pm intraday and would you make monet if the trade reverses?
6. Wouldn’t the instrument be highly liquid for all the above to make sense for both the broker and trader?
Hopefully you can answer all these questions.
Thanks once again for your humongous efforts!
Forever grateful and Kind Regards
Ashish Dsilva
1) Yes, you have the option to square off your long call option position anytime before the expiry.
2) No, ‘square off’ implies that you are fair and square and have no open position in the market. Ex – you buy an apartment, square off, in this case, implies that you sold the apartment you have
3) As many times as you wish
4) If these are intraday positions, we try to square off the position, but the onus is on you to sq off all your intraday positions. The availability of the buyer or seller depends on the market situation and liquidity.
5) No, once I sq off, I’m out of the market.
6) Yes, liquid instrument means it is easy to buy and sell.
Dear Sir,
If we square off our position in a call option before the expiry date or say we square off on the same day we bought, will the premium amount be deducted from the profit? How will be the calculation of Profit/Loss? Please explain with an example if possible.
Thanks & Regards.
The P&L will depend on the premium price you paid to buy and sell. Your P&L is the difference between the buy price and sell price multiplied by the lot size.
For Example :
In Intraday trading, I bought 1 lot (75 qty) of NIFTY21MAR15200CE at price 270 (Total Margin req. = 20250) and sold it in 10 mins at price 290,
Then net profit = (290 – 270) * 75
= 1500
there will not be any premium deduction from profit in the case of intraday trading. Am I right sir?
Thanks & Regards,
Ashish
Thats right, 1500 minus charges is your net profit.
i have some doubts sir, if options are only cash settled then cant an option buyer have real shares on the expiry date rather only getting the difference amount ? and another qstn is if it is cash settled then y the equity market is said to be volatile on the expiry date, as the expiry dosnt make any real equity share trasnfers?
Yes, you do need to have cash physical shares for settlement. I’d suggest you read this chapter to understand this better – https://zerodha.com/varsity/chapter/quick-note-on-physical-settlement-2/
Sir iam reading the modules, by the way great lessons.
but my doubt in the middle was , did the option seller needs the shares in his holdings to do an option selling.
Yes, physical settlement of options requires you to have shares in your DEMAT.
Kartik Sir, Thanks a lot for this deep information and knowledge by you. Kindly post a video showing a live trade explaining every aspect on KITE to make our understanding clear about options trading. As many of us feel scared. Of this due to the big volume and price. This will make us to understand this process smoothly.
Regards
Jaya
Thanks, Rajeev. We are evaluating the possibilities of making videos. Hopefully soon 🙂
Sir, you said that there are Three Expiry options of a stock at any given point in time, But why is that there are Expiry every 7 days for Nifty/Bank Nifty options and that too as far as yr 2025 for Nifty options?
Three monthly options, I mean 🙂
so which is profitable for a option buyer.
Let it expire if buyer is in profit on the day of expiry or square off before market closes on the day of expiry?
As long as its profitable, both options are ok. I’d prefer to sq off the position just before expiry.
the way you are explaining in these modules are amazing, even a totally newbie in stock market can grasp it in a shot by the explanation u have made. thank you so much for this, keep doing it
Happy reading, Basavraj!
Exercise the option only on the day of the expiry and not anytime before the expiry. WHY?
Thats is the structure of the contract, Kamal.
Sir can we square off half of our derivative and hold the rest till expiry
YOu cant split a lot. But if you have multiple lots, then you can split them into multiple lots and buy/sell.
Sir,
Excellent module.
I read the entire module. If you had explained the concept of “Square Off” and “Expiry” in the beginning, students could understand the module better because till the end of the chapter i am understanding the module from only one angle i.e. Expiry.
When i read the questions and answers 2nd time i came to know that option can be implemented in two ways.
Kindly insert “Square off” and “Expiry” concept in the beginning.
Secondly.
Q&A part is very helpful. However, one cannot MARK any particular Q&A. One has to scroll the entire Q&A part if one has to find out specific Q&A which is a tiresome process. Many reader has already raised this concern but no action is taken till date. Please develop some mechanism in Q&A so that reader can easily find a specific Q&A.
I completely agree with you. Missed doing it. About the QnA, yes, that’s something we are looking at, will check with my team again.
Since options can be exercised only on the day of expiry is there any difference between “exercising the option ” and expiry ?
Hi Karthik Sir, I have a doubt if my p&L is in profit and spot price is above strike price on expiry and It is told that options are setelled in both ways cash settlement or physical delivery of shares what if I dont have full money to buy full lot of any share eg TCS so in that case what will happen and will my broker will confirm me for cash settlement of phisical delivery or shares will be directly be delivered to my dmat and amount will be deducted.
Stocks are physically settled and not cash. Only index is cash settled, Sarthak. In case you dont have sufficient margins, the position would be squared off before the expiry itself.
Sir, when we square off a position – what it means is actually we are making profit(typically/loss) by selling our contract to a new buyer – is it correct ?
If this is correct, when we sell the contract do we choose the strike price / premium at which we want to sell the contract ?
By square off I just mean that we are closing out the existing position either for a profit or for a loss. The P&L depends on the purchase price and the sale price. To square off, you only need to select the price because the strike is already selected when you initiated the trade.
Thank To Karthik for content and the answers to all queries
I have query – Assume i sold Titan 1900 CE at premium 6 today. I dont want to hold it and premium goes 7 or 5. I want to buy it before expire, what will be profit to me in both cases?
Yes, you can exit. The P&L will be the difference between the purchase and sale price of the premium.
Suppose i sell an option of Bank Nifty 35500 @ 200 and the nifty goes below 35500 before expiry, how do i exit from this agreement. whether i will be profitable
You can exit at any time you’d want.
Hi Karthik,
Thanks for the Nice Explanation on Options. Big fan of Zerodha varsity. I have one doubt:
If I am an Option writer and my trade goes wrong within the expiry period , then how can one close contract in between , since option seller are not obliged to do it.
Thanks, Manish. YOu can close the option position anytime you wish before the expiry. No need to wait till expiry.
If I square off I won’t be getting the profits from exercise on expiry?
Sir,
I have one doubt.First of all i am a novice in the option trading so it may possible that what i ask seems to be of foolish type but i want to learn it thoroughly.
As you have explained in the chapter that the price of premium is chageable, my question is,
Suppose the xyz stock price in the spot market is 120 and i have a strong information that after one month the price will be 145 so i buy Call option .My doubt is whether i need to buy Call at 120 or 130 or 140 or 150.Please clarify.
Since there is a lot of time to expiry, you can consider 130 Strike.
Can the strike price for a long call be lower than the spot price 15 days before expiry ?
And if so, aren’t we actually betting on the fall of spot price ? How is a long call bullish view then ?
Yes, strike price can be lower than spot. Such strikes are called ITM or In the Money strikes. The premium for these are much higher.
If i bought option of 5 rupees premium then premium increases to 8 rupees and I sold the premium at 8 rupees .
If someone bye premium 8 rupees from me and hold to expiry date then he exercise the contract then will I need to pay cash settlement . If i am not paying cash settlement , then who will cash settle for him ,nse or broker
Then will it be my loss
No, once you sell the option at 8, you are out of the market, no further implications.
We Can’t read more in Ebook if hardcopy is there please provide the details of that and do the needful.
You can always download the PDF and print the same, Sridhar.
Please update the information. options are no longer cash settled in India since 2019
Updated in the last chapter.
Has this information been updated, to trade in options in 2021 ? a lot of the content seems outdated
I will be happy to update, but what seems to be outdated except the cash settlement part?
Options are still cash settled in India
Index options are, stock options are physically settled.
Sir ,
Could u pls explain with example the difference between option expiry and square off .
Hay kartik agar me nakad ki bajay stock lena cahu to kya me esa kar sakta hu
I am first time investors in options. How to buy or sell options in Kit app? HOW to identify which CE OR PE TO SELECT?
I’d suggest you call the support desk, they will help you with this.
Hi karthik
Suppose underlying value of commodity is 25.90 Rs. I buy a strike price of Rs24.90 currently when it is still trading at 25.90. My question
1 is it possible to do it?
2. Even after buying this call , I will have a profit of Rs 1 per share??
Can u pl explain this situation
1) Yes, as long as its liquid
2) As long as it expires in the money.
Sir what we know is that the premium of an option decreases with decreasing time, does it means that on expiry date if the intrinsic value of stock is greater than strike price but premium is lesser than our given premium, we can go for exercising the option rather than squaring off?
The time factor is just one of the variables that influence the price of an option. Other factors include the speed at which the market is moving, direction, and volatility.
Can the strike price be lesser than the current underlying (spot) price of the asset in a call option? With reference to the example cited in the explanation above, SP is 25, Underlying price is 25.90.
Yes, that’s certainly possible!
Sir the snapshot you used to explain the option chain …. ITC underlying price says 336 and you outlined the premium on strike price of Rs. 340 can’t we buy option for strike prices 260-330? Coz many column in these prices are left blank …
Chetan, it is because there is no liquidity in these contracts.
In the text it is mentioned that, “you can exercise the option only on the day of the expiry and not anytime before the expiry.” So as an example, lets say,
underlying share = ITC
call option = ITC 400 call of 24-02-2022 expiry
today’s date = 12-02-2022
ITC share price today = 360
ITC share price on 15-02-2022 = 500
So now even though when price is 500 (on 15-02-2022), and I am not in expiry day (on 24-02-2022), but if I could exercise my right to buy at 400, I could make a profit of 100. But because of price date not being on expiry date, you are saying that the bought option cannot be exercised?
Sahin, you can sell anytime you want and there is no need to wait for an expiry. But if you plan to hold to expiry and take delivery, then you can do it only by exercising the option on expiry day.
Are the options traded in India of European style? I saw somewhere that they are of American style…
Yes, all options in India are European in nature.
8th point from Key takeaways from this chapter “Options are cash settled in India”. Is it still same or due to recent SEBI changes it is settled in underlying.
Ah no, options are physically settled now. Will change this, thanks for pointing it out.
I’m a regular options trader and I like to keep refreshing my knowledge, personally I find your interpretations far more comprehensible than the thousand books I read from either popular publications or authors.
Worst is CMT Association, Wiley and NISM, their study material makes me feel that most of their authors are substance addicts and they may have drafted their material under some influence.
Nothing comes for free these days, especially education, and you sir have done a praiseworthy job.
I profoundly Thank You for your work.
Glad you found the content on Varsity useful. Happy learning, Dev 🙂
sir options can get expired on every thursday then why is it written above that ‘option contracts expire on the last Thursday of every month’ ?
Yash, the material was written only when there were monthly contracts. Now there are weekly contracts as well, which expire every week on Thursdays.
Hello Karthik Sir,
Can you please explain how can we choose a strike price for a stock which has right premium value i.e. premium of the strike price of a stock in neither high nor low. It is adequate.
Also can you please explain how can we make profit with premiums before expiry of the contract?
For that you will have to read the entire module 🙂
Hi karthik,
is it better to wait for the expiry date and exercise the option? It seems like that is more profitable than selling your options before expiry date.
Depends on so many factors, Manish. Cant really generalize this.
Here we are trading premium of contract and at expiry we are exercising the contract
Yes Rahul. Both are different things.
Hello sir!
As you have explained the settlement procedure here with respect to spot price-strike price+premium which the buyer pays leading to the actual profit.
However in the next modules the intrinsic value and premium have been separated and focus was shifted to only premium.With respect to above example of settlement can we not directly find out the net profit as change in premium *by lot size.
Ex.Premium=Rs.1.35
New Premium=Rs.5.35
Change in Premium=Rs.4
Net profit=Rs.4*lot size
4*8000=Rs.32000
Please guide for the same
Thank you in advance!!
Paras, you are right. I’d suggest you check this for more details – https://zerodha.com/varsity/chapter/options-m2m-and-pl/
If option contract expires on last thursday of every month then how can 3 types of expiries work … Current month , mid month and far month !??
The tenure of these expiries varies over 3 months.
Terms like Short covering, Long unwinding, etc. are they used for both options and futures or only futures?
Used as a generic term, so applicable to both.
Hi Karthik
My query is we buy CE when there is an uptrend from the current price. But when we look at the options chain, why is the premium of PE higher compared to CE as there is an increase in strike price?
E.g. CE Premium for Strike price @33400 is 443 and PE premium for Strike price @34000 is 898. Why would anyone buy PE at such a high premium when there is CE available?
Praveen, that also depends on the overall market expectation. If the markets are expected to tank, then obviously put premiums will be higher, right?
Karthik Sir,
First of all, thank you so much for excellent explanation of concept. Now i am at 2 chapter “Basic option Jargon”
I got stuck with a typical question, hope it get answered. Is it necessary to buy option and then sell? or otherwise? How one buy sell /put option, when one does not preowned any shares? In other words, how one sell option when he doesn’t own it. please explain this point.
Thanks in advance.
Ahmad, you can easily buy and sell options, remember these are contracts based on underlying and not the actual underlying itself.
Dear Karthik,
So what you are saying is that if you square of before the expiry you only gets the profit from the difference in premium prices and also could you explain the P&L of exercising the call option on expiry date ?
That’s right, you can check the detailed explanation here – https://zerodha.com/varsity/chapter/options-m2m-and-pl/
Are BANKNIFTY & NIFTY options European style while stock options are American style?
All options in India are European in nature.
Options as cash settled in India, is this statement true. What I know is we need to take delivery
Index options are cash settled, stock options are physically settled.
Sir, suppose if I buy call option at premium of rs.10 and strike price 100,and then say within half an hour the premium increases to rs.15, but the strike price has not yet gone above rs.100 and if i decide to sell,will i earn rs.5 as profit?
Yes, you will.
(continued)sry,I mean if the spot price has not gone above the strike price.
Sorry, can you share the context? I may have missed your previous query.
Thankyou very much sir for ur prompt answer.Mr.kartik u are a very nice person,kind at heart and humble who answers to even our silly questions.that too again n again.God bless u n ur family with all the happiness.
Thanks for the kind words, Pallavi. Happy learning 🙂
Sir,
For stock options swing trading, only buying call or put, ( to hold 3 to 10 days ), what strike price should be selected and also whether from ITM/ATM/OTM?
What is the role of IO /change in IO and volume in this case. Please clear my doubts. Thanks
When in doubt, always stick to ATM option 🙂 I’ve explained OI here – https://zerodha.com/varsity/chapter/open-interest/
is it mandatory to wait till the end of the expiry to Exercising of an option contract ? can’t we Exercising of an option contract before expiry date if price move up ? please can anyone gives clarity on this .
Exercising can be done only on the expiry day, but you can square off the option anytime you wish.
In Option-Chain different strikes have different IV. But Why? when VIX is the same?
How do they calculate IV? If we use Black-Scholes Model to calculate options prices. The Black-Scholes model requires five input variables: the strike price of an option, the current stock price, the time to expiration, the risk-free rate, and the volatility.
Out of five variables, four are easy to collect. but How do I know what is the IV?
for knowing the IV we need the Option price. for calculating options price we need IV. In an equation How is it possible to get two variables at a time?
I’m totally confused :confused:.
1) Due to the strike-specific demand and supply situation
2) YOu can feed in price as input and extract the IV as an output
You can check this – https://zerodha.com/z-connect/queries/stock-and-fo-queries/option-greeks/how-to-use-the-option-calculator
I have a doubt. I am a call option buyer and I paid premium of rs 10 to seller GOVIND to buy a contract. Govind has to stay in the contract till expiry as its his obligation . If the premium increased to 11 and when I am happy with the 1 rs profit I will sell the contract to another person RAJ and I booked 1 rs profit. but now I am the new option seller right? so shall I need to wait until the expiry or i am already out with the profit?
Firstly, neither the buyer or seller are obligated to hold the contract to expiry.
When you sell to Raj, you are squaring off your position. So Raj is the new buyer and Govind is still the seller.
sir,u said like if the strike price is below the spot price on the expiry then only we will get profit,considering this point y can”t we
take the much lower strike prices while buying, so that there is higher chances for strike price to stay below the spot price?
Shiva, can you share the context? I guess this is with respect to put options?
dear sir here is my little doubt we can book the call option profit before expiry but the settlement of funds will be done after expiry please explain i am bit confused is there difference between settlement and profit booking ?
You can book the profit anytime. The settlement is on T+1 basis.
sir, the condition to the option buyer to be profitable is spot price should be more than strike price on the day of expiry, is n’t it?
so, if we select the strike prices much lower than the spot price, then there is high chance to spot price to stay above strike price on the day of expiry. for ex: bank nifty is trading at 38500(spot),now instead of selecting near strike price, if we choose 35000 strike price, even if market down for 2000 points till the expiry, still we will be in the profit according to the first line.correct me if i am wrong
But this particular option will come at a very high premium right? To be profitable, you need to ensure that you also recover the premium you’ve paid.
squaring off before expiry gives a profit because of the difference in price of premiums. is it possible to square off before expiry so that a profit from spot price -strike price can be enjoyed? Is it possible to square off on the expiry day before the closing time to enjoy the difference between spot price and strike price without attracting STT?
Yes, you can.
I have understood the chapter well.
Happy learning, Ajay!
Hello kartik,
My question is, if i have call option for example say 200 strike price now i hold the contract till expiry and price is go higher to 230 ,then i can recive 30 rs profit per share and also let exercise stock at price of 200 ,so i can make 30rs profit per share and also get stock at price of 200 ,right?
It will be ITM to the extent of 30 Rupees. The option will be physically settled.
Sir, just one doubt.
if we book profit then there is no need to exercise, if not we need to exercise on the expiry. Is my understanding correct.
Yes, thats correct.
Hi Karthik,
Do you want to correct the content that options in stock are more cash settled? Now its delivery settled. I see this reflected in some of your other articles.
Thanks,
Raj
Raj, we have updated the chapter here – https://zerodha.com/varsity/chapter/quick-note-on-physical-settlement-2/
if we use stop loss and we trail our stop loss can we take exit our position before expiery?
Yes, you can.
we need to wait till expiry date exercise our right ? cant we sell intra ot BTST ? if in profit ?
YOu can square off your position whenever you want, Dayananda. No need to wait till expiry.
The article says “Options are cash settled in India”, but from what I know this is not the case anymore. I guess this article needs to be updated with latest regulations.
Suraj, check this – https://zerodha.com/varsity/chapter/quick-note-on-physical-settlement-2/
Do you suggest to leave the option contract to expire in case of a profit situation or is it advisable to exit just before 3.30pm. Which would be a better option in case of charges acquired? I understand STT is 0.125% of IV and No brokerage on sell side in case of OTM expiry. But not sure which is a low cost method. Would also like to know your personal way of approaching this. Thanks Sir.
If you are short position profitable, and the option is OTM, let it expire. If your long is ITM, and you are profitable, sq off before 3:30 to avoid physical delivery. Of course, avoiding physical delivery is my personal preference, really depends on what your intent is.
Thanks sir. I forgot to mention that I was referring to only index options.
Sure, I hope the explanation is clear.
at present stock options and index options both are european style or american style
Every option in India is European in nature.
Amazing content Karthik sir.
Would the premiums vary even after entering into a contract ? Are they dynamic even after entering into an agreement ?
Could you please help me understand how to calculate Intrinsic value with time value? I don’t know how to calculate could you help me understand this? If bank nifty is trading at 42800 I but ce of 42700 and Nifty expires at 42000 what will be my profit? how to calculate profit or loss
Check this, Vatsal – https://www.youtube.com/watch?v=fDLJlU8OdP8&list=PLX2SHiKfualFiusiT9G5uE9jU3vetvW2x&index=9
Sir,
Suppose an underlying is trading at Rs. 10/- in spot market. A particular strike price of a call option agreement is Rs. 15/- (Lot size:10) with a premium of Re. 1/-. Price shoot up Rs. 20/- on the expiry day. With view of the above, I have the below queries:
(i) If the buyer wants to exercise his right on the expiry day, should he have to mandatorily possess Rs. 15*10=Rs. 150/- to exercise his right?
(ii) On the other side, if the seller has to fulfill his obligation, does he also have to possess Rs. 20*10= Rs. 200/- to first buy those shares from spot market and then sell them at Rs. 150/- to the buyer or possessing only the balance amount i.e, Rs. (200 minus Rs. 150)*10= Rs. 50/- will be sufficient for the seller?
(iii) Can the buyer exercise his right anytime on the expiry date or there is any particular time say, 3:20 pm at which he has the option for exercising right?
(iv) Regarding exercising right from the buyer perspective, does the buyer need to do it manually on the day of expiry or the system will automatically do this on behalf of buyer without taking his consent?
(v) Regarding fulfillment of obligation from the seller perspective, will the system automatically deducts money from the margin hold?
1) Yes, the trader should have the necessary cash to take physical delivery
2) Thats right
3) The position goes to settlement post the market closes. So you need to hold the position to expiry
4) No, just let the position as is in the system and it will be settled
5) Yup
Sir,
(i) Regarding Call options, if the buyer exercises his right at the expiry, is the mechanics follow like below?
The buyer will buy lot at strike price from the seller and sell at the spot market price in the spot market.
(ii) Regarding Put options, if the buyer exercises his right at the expiry, is the mechanics follow like below?
The buyer will buy lot at spot market price from the spot market and sell at the strike price to the seller.
(iii) Suppose an underlying is trading at Rs. 10/- in spot market. A particular strike price of a call option agreement is Rs. 15/- (Lot size:10) with a premium of Re. 1/- when underlying trading at Rs. 10/- . Price shoot up Rs. 20/- on the expiry day. With view of the above, I have the below queries:
(A) With view of the above example, suppose at the expiry when the underlying price is Rs. 20/-, the premium goes down to Rs. 0.50/-. If the buyer exercises his right then P&L= IV- Premium, as we studied. However, will the change of the premium price i.e, Re. 1/- minus Rs. 0.5/- will also affect the P&L of the buyer at expiry?
(B) If the buyer exercises his right, for the seller we know that P&L= Premium- IV. Will the change of premium ( Premium received minus premium at the expiry) will affect the seller at expiry?
(B) Is there any general trend that follows with the premium price? I mean to say that as the underlying price from Rs. 10/- (OTM/Deep OTM) will move towards the strike price (Rs. 15/-), will premium also increase accordingly? Also, if the underlying price moves above Rs. 15/- (ATM) to Rs. 20/- (ITM/Deep ITM), will premium increases accordingly? Kindly help understand how premium follows from “Deep OTM—->OTM—–>ATM—–>ITM—–>Deep ITM” for CE.
Anirban, I think most of these questions are related to the physical settlement of derivatives. I’d suggest you check this chapter once – https://zerodha.com/varsity/chapter/quick-note-on-physical-settlement-2/ and also this chapter – https://zerodha.com/varsity/chapter/options-m2m-and-pl/
Sir,
I learnt those two last chapters once. But I have few fine doubts. It would be really helpful if you may kindly specifically respond (may be in Y/N) on the above please. It would help me gain confidence on my learning.
Sure, I’m trying to answer all your questions 🙂
Sir,
(i) Regarding Call options, if the buyer exercises his right at the expiry, is the mechanics follow like below?
The buyer will buy lot at strike price from the seller and sell at the spot market price in the spot market.
(ii) Regarding Put options, if the buyer exercises his right at the expiry, is the mechanics follow like below?
The buyer will buy lot at spot market price from the spot market and sell at the strike price to the seller.
(iii) Suppose an underlying is trading at Rs. 10/- in spot market. A particular strike price of a call option agreement is Rs. 15/- (Lot size:10) with a premium of Re. 1/- when underlying trading at Rs. 10/- . Price shoot up Rs. 20/- on the expiry day. With view of the above, I have the below queries:
(A) With view of the above example, suppose at the expiry when the underlying price is Rs. 20/-, the premium goes down to Rs. 0.50/-. If the buyer exercises his right then P&L= IV- Premium, as we studied. However, will the change of the premium price i.e, Re. 1/- minus Rs. 0.5/- will also affect the P&L of the buyer at expiry?
(B) If the buyer exercises his right, for the seller we know that P&L= Premium- IV. Will the change of premium ( Premium received minus premium at the expiry) will affect the seller at expiry?
(B) Is there any general trend that follows with the premium price? I mean to say that as the underlying price from Rs. 10/- (OTM/Deep OTM) will move towards the strike price (Rs. 15/-), will premium also increase accordingly? Also, if the underlying price moves above Rs. 15/- (ATM) to Rs. 20/- (ITM/Deep ITM), will premium increases accordingly? Kindly help understand how premium follows from “Deep OTM—->OTM—–>ATM—–>ITM—–>Deep ITM” for CE.
1) Yes. But for this, the delivery of the stock has to happen
2) From a Put buyers point of view, the buyer has to give delivery at the strike rate
3 -a) If the underlying goes to 20, how will the Call option strike of 15 have a premium of 0.5?
3-b) Yes, loss for buyer is the gain for seller and vice versa
3-b-b) Yes, that’s generally how option premiums transition.
Sir,
Thank you so much.
Regarding put options, at the time of exercising the right from the buyer, does he buy the underlying at spot price and sell at strike price to the seller?
IN “”EXERCISING OF AN OPTION CONTRACT “” THIS IS MENTIONED
Here is an important point to note – you can exercise the option only on the day of the expiry and not anytime before the expiry.
IS THIS MEANS,IF A CALL IS BOUGHT AT A CERTAIN STRIKE PRICE PAYING A CERTAIN PREMIUM,IT CAN BE SOLD OR EXCERCISED ON ONLY THE DAY OF EXPIRY,NOT BEFORE THAT?
PLEASE REPLY
REGARDS
AMARJEET CHHABRA
8817504379
DSA326
Amarjeet, do check this – https://zerodha.com/varsity/chapter/options-m2m-and-pl/
After buying a call option (say strike price 100, premium 10), the stock value went above strike price (say 120), but premium has come down (say 5). If I square off the position before expiry what will be my P&L.
You will lose 5 here, basically the difference between your buy and sell price of the premium.
Excellent!
Happy learning!
Please update or delete this article. Exercised options are compulsory delivery, NOT cash settled.
What happens if i exercise NIFTY options, will i get entire NIFTY portfolio or a NIFTY ETF or will it be cash settled
Nifty is cash settled, not physically settled.
Sir 🙂,
I have taken my first option trade in my life for just trying on this friday. I bought 25 lots of USDINR 9TH FEB PUT AND SQUARED off the trade within 30 SECONDS. I GOT A PROFIT OF 175 RS. The heart was rapidly beating after seeing the M2M. I feel its very hard to see this kind of highest price volatility after practicing swing trading and having a position worth Rs 20 lacs🙂, paying just 3000rs.It’s very very very very addictive.
Congratulation on your first options profit. Please pay attention to what you said towards the end – “It’s very very very very addictive”, which is 100% true. You will always need to evaluate yourself and the reasons as to why you are trading. Otherwise, you’ll start over trading without even realizing the same 🙂
Thank you Sir 🙂,
I will enable the kill switch after having profit or loss in a trading session. I won’t be able to trade anymore on that day. 2 rules of trading I will follow 1)whenever I take a option trade , I will always hedge my position even if I am 100% sure about my judgement.
2) I will never trade a naked option.
Rule 3 – Stay humble and always and always acknowledge the role of luck in your trading activity.
First of all, thank you so much karthik and team zerodha for wonderful content.
I would like to know about the type of option i.e. European and American option.
American option can exercise on any day over the expiry and European option can only exercise on expiry date.
I have read on internet that CE stands for call European but in market we can exercise option any time during the expiry.
Why we write CE or PE? Instead of CA or PA.
Jay, thats right. The difference is only with the way option exercising happens. What you are refering to is the fact that options can be bought and sold anything you want (by trading premiums), but exerting of an option is only upon expiry.