Today it is very easy to open a demat account online and trade options in the stock market using the best mobile trading app on your mobile phone. Today, options trading is typically linked to terms such as large profits, a low risk and high risk. These two phrases may appear contradictory but in reality, both are valid. If you are trading options, the risks are minimal. However, if you make a mistake, you could make a huge loss immediately. However when you make your trades carefully options trading could turn out to be a lucrative business. However, many traders don’t realise the risk that comes with it and eventually fall in the category “of irresponsible trading class.
This is why we have compiled an entire guideline to begin your journey into options trading. We will begin by learning what options are. We will then go over the particular concepts associated with options such as calls, puts premiums, premiums and an option chain.
What are Options?
Options contracts fall into the category of derivatives and they establish an agreement between buyers and sellers. Because they are derivatives, the values of the contracts are based on the value of the underlying asset like an index or stock. In addition, the contracts are a fixed duration and expire at a specific date known as”expiry” date. Let’s find out what the contract entails.
The option agreement in a contract relates to the purchase of the asset. When the contract expires that is available to both parties on the contract, the seller is given the option of transacting the underlying asset for an agreed price. In simple terms on the date of expiry in accordance with the terms of the contract for options the buyer of the option is able to choose to purchase or sell the asset. The seller of options however is not granted the option in the form of “choice”, and is legally bound to either buy or trade the assets in accordance with the contract.
Call & Put Options
The end of the previous section might be a bit confusing. How can the buyer of options both buy and sell the underlying asset? The answer is in the fact that there are two kinds of options: Call Options (CE) or the Put Options (PE).
Call options allow the buyer to purchase the asset at a set price. In contrast, puts allow the buyer of options to sell the asset that is under consideration at a set price. To explain it in a simpler manner the options trader would purchase calls if they believe the value of the underlying asset will see an increase in value prior to expiry. In contrast, they purchase puts when they believe that the value of the asset they are buying is likely to fall before expiry.
For instance take the case that it is November and the value currently is 18,000 but is predicted to decrease to 17,500 prior to expiry. In this scenario the option buyer could buy Nifty PE 18000. At the time of expiration of the option, if the value of the Nifty falls to 17,300, the options buyer could decide to sell units of the Nifty for 18,000. In that scenario the options seller would be obliged to buy each unit for 18,000. In contrast when the value is at or around 18,000, the buyer may opt to not sell the asset that is under consideration. In this case, “18000”, is the strike price that is the set price for trading the asset that is the basis of the transaction.
If buyers of options are able to execute the transaction when it is favourable to them and reject the transaction if they don’t, then what’s to lose for the buyers of options? When buying options, the option buyer must pay a premium to the option seller. If they keep the contract to expire and decide not to fulfil it in the event that the situation is not in their favour, the premium may expire without value. Therefore, we can use the term “limited downside” with options purchasing, since the amount of money one loses is limited to the amount of premium.
If the circumstances favour their wager, the value of the premium will increase also. It is due to the increased demand for the contract, and the strike price rising. This is why the majority of buyers who trade online, opt to close their positions prior to the expiry date and get their money back on the premium. This means that when they buy the call for an amount of 200 dollars per unit and then sell it prior to the expiry date for a greater price. The same is true for puts. Additionally the actual asset is sold in lots in which a lot could comprise fifty units. It is unlikely that anyone would wish to purchase 50 units of Nifty Trading for 17,000.
You might have noticed the article is primarily focused on buying options, but not much on selling options. If you’re thinking of taking a risk with options trading then you should consider choosing to buy options first. Options selling doesn’t carry the tag as having a “limited downside” attached to it. If you’ve just begun trading online or plan to start it is recommended to take your time and become familiar with the market prior to entering any kind trades that involve derivatives. You can open a demat account online and trade options and stocks with Kotak Securities, which offers one of the best mobile trading apps you can find.