INSUBCONTINENT EXCLUSIVE:
The better informed and savvy buy or sell futures and write call or put options
How does it workAssume a trader has a view that Nifty will rise beyond 11,000 by January 31
He is well capitalised and has a stomach for risk
He could simply buy futures at the Friday closing of 10,937 or buy an 11,000 call option for Rs 79 a share (75 shares make one Nifty
The trader could also write a Nifty put option as he is bullish
He will lose only if the Nifty falls from the current level of 10,937 for futures and stays below 11,000 for options by expiry on January 31
Assume that the Nifty hits 11,100 by expiry
(All the figures are rounded off.)
3
So, is the gain greater from trading futuresBy quantum of money yes, but on a relative basis, return on investment is far greater in options
To buy the 11,000 option the trader paid Rs 79 a share or Rs 5,925 a contract
The gain was Rs 21 a share or Rs 1,575
The return was a gross 27 per cent
The return of Rs 12,225 is 9.9 per cent
Does that mean options are a better choice The takeaway is that trading an out-of-the-money (OTM) option is cheaper than a futures contract
as one is not subjected to mark-tomarket losses as in the case of a futures contract or an options seller
The maximum loss for an option buyer is his premium or the price he pays to buy the option from a seller
In futures profits can be unlimited but so can losses
Also the sum earned is far greater in futures than for an OTM option given that margin is returned along with the gain
Option buyers make relatively smaller sums but their risk is lesser than for a futures buyer
Also those with lower risk taking ability can dabble in liquid options than on index futures.
5
How can one protect oneself from lossesBy trading with strict stop losses.
