How to trade in futures and options in india

In an online chat with Get Ahead readers on October 9 Nithin Kamath, CEO, Zerodha answered readers' queries on how to trade in futures and options.
Here is the unedited chat transcript.
kaushal : What are the conditions imposed by SEBI for brokerages to start offering F&O services?
Nithin Kamath : SEBI does a rigorous check on background of promoters, networth requirement, market knowledge of the management, technology and risk management systems before allowing a brokerage to offer f&o, along with this there is continuous audits done by the exchanges to ensure that everything is in place.
ulfat : Who should ideally trade in futures & options segment?
Nithin Kamath : Futures and options requires some commitment in terms of time to learn how to trade and then tracking your trades once you have taken them. If you are a positional trader, then I guess a person who can commit atleast a couple of hours everyday. Also, the business involves leverage and can be an emotional roller coaster, so a person who can handle that volatility.
alex : Which books did you read to become an expert? What role does experience play in becoming a great F&O trader?
Nithin Kamath : Best books to get started with are those which talk about the good habits of profitalble traders as mentioned below. But once you are done with that, it is self discovery in reading and researching on what strategy best suits u.
Yep, experience is the key, important thing is to learn from your experience and not make the same mistake twice.
Jeswal : How can I become an expert in F&O trading.
Nithin Kamath : f&o trading or trading in general requires a lot of time effort and dedication. The only way to learn trading is by actually putting up your money, only then will what you read make sense. But it also important that the money you put is something you can afford to lose. As I said earlier, try reading about what most profitable traders in the world did right in the book Market Wizards.
kapadia : premium for which strike prices have high implied volatility? What does it imply and how to make money using this high implied volatility?
Nithin Kamath : Usually out of the money options have a higher IV, the trade typically could be if it is much above the mean IV, it could be a good time to sell them and much below the mean time to buy.
Tharun : If i sell a call on starting of month ex.18 rs/-, when it reaches to zero on expiry, so i get profit of 18 rs? How can i calculate margin required for writing a option?
Nithin Kamath : We provide a tool called SPAN calculator, zerodha/z-connect/blog/view/span-calculator this allows you to calculate. We will be soon providing a similar tool on our website which can be used by everyone.
vinod gatta : what is the average oscillation range of IV in nifty option? how can we use of it by analyzing?
Nithin Kamath : Don't have the exact numbers but the range is between 10 to 40, at the lower end better to buy options and at the higher end to write them hoping that it will revert to the mean.
sudaram : What is historical or statistical volatility? How does it affect pricing of futures and options?
Nithin Kamath : Historical volatility is simply historical volatility in the price of the underlying. Volatility affects options more than the futures, higher volatility usually would mean option would be priced higher.
John : Are Indian F&O mkts deep enough? there are no calll writing and put writing for next month or 3-month F&Os.
Nithin Kamath : Yes liquidity is pretty bad if you go for anything other than present month. Also the activity in stock options is really low.
jitesh : How shall one trade in the F&O of index heavyweights on the expiry day?
Nithin Kamath : There is no preset strategy to trade on expiry day, all you have to be careful is about not letting your in the money options expire (you rather sell it on the exchange rather than holding it till the close of trading on the expiry day. The reason for this is because the STT on expired options which are in the money goes up significantly.
omi : How does a call writer and put writer make money?
Nithin Kamath : call writer makes money when the markets don't go up above a certain point and put writer if market doesn't go down below a certain point.
rajat : plz enlighten us on 5 must-dos and don'ts while trading in F&O.
Nithin Kamath : The most important rule while trading f&o is to be very conservative, since there is a risk of losing money fast, risk only that which you can afford to lose, ideally should not exceed more than 15 to 20% of your investible capital.
bhanu : what is implied volatility mean? How can I calculate it?
Gadgets-Gaming : Tell me what are the risks associated with F&O and risks with day-trading in stocks?
Nithin Kamath : Risks associated are the same, since you are trading with leverage, i. e more money than what you have in your account, the risk of losing money fast if your trade is not right.
shaishav : Is it advisable to buy calls and puts or sell them?
Nithin Kamath : It is advisable for a beginner trader to start off buying options rather than writing/selling them. Once you get a hang of how the business works, you can look at writing/selling them as well.
shinde : How can I make profits on results day. A lot of benchmark stocks will be announcing their results starting october 11.
Nithin Kamath : As mentioned in Anil's query earlier, buying both calls and puts is the best bet when expecting volatility in the markets.
mustafa : How is trading in futures & options differennt from trading in stocks? What makes more money?
Nithin Kamath : Trading in f&O basically lets you get over the basic limitations of trading stocks. 1. it can be used to hedge, similar to insurance policy for your portfolio 2. Speculate, while trading stocks if you feel stock/market is going down, you can sell and buy back only for intraday, whereas in f&O you can run this position upto 3 months.
Also while trading stocks if you want to buy for more than what money you have, there is an interest to worry about, but not in case of f&o.
vishal : What are the kind of money one can make in F&O? What are the risks attached?
Nithin Kamath : Since when trading on f&O, you get a leverage, the profits you can make also gets multiplied. But leverage is a double edged sword, so the risk also goes up quite a bit.
salim : I have heard about straddles and strangles in F&O. But how do they help me make profits? What are the risks associated with such strategies?
Nithin Kamath : Straddles and strangles are option strategies that you can take when instead of direction of the markets, you are betting on the volatility. Safer than naked options trading because your risk is hedged.
shirish : I want to trade in stocks and also F&O. Which are the best books to read?
Nithin Kamath : The best way to start off trading markets is by knowing what the profitable traders do, so in that context Market Wizards by Jack Schwager is a good way to start.

Trading Stocks & Index Futures in the Indian Stock Market.
Futures trading is a business that gives you everything you've ever wanted from a business of your own. Roberts (1991) calls it the world's perfect business. It offers the potential for unlimited earnings and real wealth. You can run it working at your own hours as well as continuing to do whatever you're doing now.
What does Futures Trading apply to Indian Stocks & Indices.
Futures Trading is a form of investment which involves speculating on the price of a security going up or down in the future.
What is a Futures Contract?
A futures contract is a standardized contract, traded on a futures exchange, to buy or sell a certain underlying instrument at a certain date in the future, at a specified price. The future date is called the delivery date or final settlement date. The pre-set price is called the futures price. The price of the underlying asset on the delivery date is called the settlement price.
A futures contract is highly standardized contract with the following details specified:
The underlying asset or instrument. This could be anything from a barrel of crude oil, a kilo of Gold or a specific stock or share.
Trading in futures is regulated by the Securities & Exchange Board of India (SEBI). SEBI exists to guard against traders controlling the market in an illegal or unethical manner, and to prevent fraud in the futures market.
How does Futures Trading Work?
There are two basic categories of futures participants: hedgers and speculators.
If the trader's judgment is good. he can make more money in the futures market faster because futures prices tend, on average, to change more quickly than real estate or stock prices, for example. On the other hand, bad trading judgment in futures markets can cause greater losses than might be the case with other investments.
Futures are highly leveraged investments. The trader puts up a small fraction of the value of the underlying contract (usually 10%-25% and sometimes less) as margin, yet he can ride on the full value of the contract as it moves up and down. The money he puts up is not a down payment on the underlying contract, but a performance bond. The actual value of the contract is only exchanged on those rare occasions when delivery takes place. (Compare this to the stock investor who generally has to put up 100% of the value of his stocks.) Moreover the futures investor is not charged interest on the difference between the margin and the full contract value.
Settling Futures Contracts in India.
Futures contracts are usually not settled with physical delivery. The purchase or sale of an offsetting position can be used to settle an existing position, allowing the speculator or hedger to realize profits or losses from the original contract. At this point the margin balance is returned to the holder along with any additional gains, or the margin balance plus profit as a credit toward the holder's loss. Cash settlement is used for contracts like stock or index futures that obviously cannot result in delivery.
Advantages of Futures Trading in India.
There are many inherent advantages of trading futures over other investment alternatives such as savings accounts, stocks, bonds, options, real estate and collectibles.
1. High Leverage. The primary attraction, of course, is the potential for large profits in a short period of time. The reason that futures trading can be so profitable is the high leverage. To ‘own’ a futures contract an investor only has to put up a small fraction of the value of the contract (usually around 10-20%) as ‘margin’. In other words, the investor can trade a much larger amount of the security than if he bought it outright, so if he has predicted the market movement correctly, his profits will be multiplied (ten-fold on a 10% deposit). This is an excellent return compared to buying and taking physical delivery in stocks.
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FAQs: Futures and Options trading in India.
WITH the exit of badla from the coming month, the stockmarket will see the introduction of options and futures in a big way. For investors who have difficulty in understanding the terminologies associated with options and futures as well as its modes of working, here's some lucid explanation.
An option is a contract, which gives the buyer (holder) the right, but not the obligation, to buy or sell specified quantity of the underlying assets, at a specific (strike) price on or before a specified time (expiration date).
Underlying - The specific security / asset on which an options contract is based.
When the holder of an option exercises his right to buy/ sell, a randomly selected option seller is assigned the obligation to honor the underlying contract, and this process is termed as Assignment.
An American style option is the one which can be exercised by the buyer on or before the expiration date, i. e. anytime between the day of purchase of the option and the day of its expiry.
A call option gives the holder (buyer/ one who is long call), the right to buy specified quantity of the underlying asset at the strike price on or before expiration date.
A Put option gives the holder (buyer/ one who is long Put), the right to sell specified quantity of the underlying asset at the strike price on or before a expiry date.
A call option position that is covered by an opposite position in the underlying instrument (for example shares, commodities etc), is called a covered call.
The intrinsic value of an option is defined as the amount by which an option is in-the-money, or the immediate exercise value of the option when the underlying position is marked-to-market.
Time value is the amount option buyers are willing to pay for the possibility that the option may become profitable prior to expiration due to favorable change in the price of the underlying. An option loses its time value as its expiration date nears. At expiration an option is worth only its intrinsic value. Time value cannot be negative.
There are two types of factors that affect the value of the option premium:
The theoretical option pricing models are used by option traders for calculating the fair value of an option on the basis of the earlier mentioned influencing factors.
Options Premium is not fixed by the Exchange. The fair value/ theoretical price of an option can be known with the help of pricing models and then depending on market conditions the price is determined by competitive bids and offers in the trading environment.
The price of an Option depends on certain factors like price and volatility of the underlying, time to expiry etc. The option Greeks are the tools that measure the sensitivity of the option price to the above mentioned factors.
An option calculator is a tool to calculate the price of an Option on the basis of various influencing factors like the price of the underlying and its volatility, time to expiry, risk free interest rate etc.
Developmental institutions, Mutual Funds, FIs, FIIs, Brokers, Retail Participants are the likely players in the Options Market.
Besides offering flexibility to the buyer in form of right to buy or sell, the major advantage of options is their versatility. They can be as conservative or as speculative as one's investment strategy dictates.
High leverage as by investing small amount of capital (in form of premium), one can take exposure in the underlying asset of much greater value.
If you anticipate a certain directional movement in the price of a stock, the right to buy or sell that stock at a predetermined price, for a specific duration of time can offer an attractive investment opportunity.
Option is a contract which has a market value like any other tradable commodity. Once an option is bought there are following alternatives that an option holder has:
The risk/ loss of an option buyer is limited to the premium that he has paid.
The risk of an Options Writer is unlimited where his gains are limited to the Premiums earned. When a physical delivery uncovered call is exercised upon, the writer will have to purchase the underlying asset and his loss will be the excess of the purchase price over the exercise price of the call reduced by the premium received for writing the call.
Option writing is a specialized job which is suitable only for the knowledgeable investor who understands the risks, has the financial capacity and has sufficient liquid assets to meet applicable margin requirements. The risk of being an option writer may be reduced by the purchase of other options on the same underlying asset thereby assuming a spread position or by acquiring other types of hedging positions in the options/ futures and other correlated markets.
In the Indian Derivatives market, Sebi has not created any particular category of options writers. Any market participant can write options. However, margin requirements are stringent for options writers.
The Stock Index Options are options where the underlying asset is a Stock Index for e. g. Options on S&P 500 Index/ Options on BSE Sensex etc.
Index options enable investors to gain exposure to a broad market, with one trading decision and frequently with one transaction. To obtain the same level of diversification using individual stocks or individual equity options, numerous decisions and trades would be necessary.
Index Options are effective enough to appeal to a broad spectrum of users, from conservative investors to more aggressive stock market traders.
Options contracts where the underlying asset is an equity stock, are termed as Options on stocks. They are mostly American style options cash settled or settled by physical delivery.
Options can offer an investor the flexibility one needs for countless investment situations. An investor can create hedging position or an entirely speculative one, through various strategies that reflect his tolerance for risk.
The equity options traded on exchange are not issued by the companies underlying them. Companies do not have any say in selection of underlying equity for options.
Holder of the equity options contracts do not have any of the rights that owners of equity shares have - such as voting rights and the right to receive bonus, dividend etc. To obtain these rights a Call option holder must exercise his contract and take delivery of the underlying equity shares.
Long term equity anticipation securities (Leaps) are long-dated put and call options on common stocks or ADRs.
Derivatives with more complicated payoffs than the standard European or American calls and puts are referred to as Exotic Options. Some of the examples of exotic options are as under:
Over-The-Counter options are those dealt directly between counter-parties and are completely flexible and customized. There is some standardization for ease of trading in the busiest markets, but the precise details of each transaction are freely negotiable between buyer and seller.
Like stocks, options and futures contracts are also traded on any exchange. In Bombay Stock Exchange, stocks are traded on BSE On Line Trading (BOLT) system and options and futures are traded on Derivatives Trading and Settlement System (DTSS).
The underlying for the index options is the BSE 30 Sensex, which is the benchmark index of Indian Capital markets, comprising 30 scrips.
BSE's first index options is based on BSE 30 Sensex. The Sensex options would be European style of options i. e. the options would be exercised only on the day of expiry.
Specific Portfolio Analysis of Risk (SPAN) is a worldwide acknowledged risk management system developed by Chicago Mercantile Exchange (CME). It is a portfolio-based margin calculating system adopted by all major Derivatives Exchanges.
SPAN identifies overall risk in a complete portfolio of futures and options at the same time recognizing the unique exposures associated with both inter-month and inter-commodity risk relationships.
PC-SPAN is an easy to use program for PC's which calculates SPAN margin requirements at the members' end. How PC SPAN works:
Each business day the exchange generates risk parameter file (parameters set by the exchange ) which can be down loaded by the member.
A portfolio based margining model (SPAN), would be adopted which will take an integrated view of the risk involved in the portfolio of each individual client comprising of his positions in all the derivatives contract traded on the Derivatives Segment.
On Exercise of an Option by an Option Holder, the trading software will assign the exercised option to the option writer on random basis based on a specified algorithm.
An investor has to register himself with a broker who is a member of the BSE Derivatives Segment.
The exchange is conducting free of cost futures and options awareness programs for member brokers and their clients. This will be conducted across the country to reach investors at large.
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• Disclaimer: Futures, option & stock trading is a high risk activity. Any action you choose to take in the markets is totally your own responsibility. TradersEdgeIndia will not be liable for any, direct or indirect, consequential or incidental damages or loss arising out of the use of this information. This information is neither an offer to sell nor solicitation to buy any of the securities mentioned herein. The writers may or may not be trading in the securities mentioned.
• All names or products mentioned are trademarks or registered trademarks of their respective owners.

How to trade in futures and options in india

Are you an NRI wanting to Trade Futures?
Know more about our NRI Futures Trading Account.
Now if you are pondering over what is Futures Trading, it is a means of speculating security’s price going up or down in the future. A security here could imply stock (RIL, TISCO etc.), stock index (NSE), asset (gold etc.), currency (dollar, pound, sterling, euro etc.) etc. Also while trading futures, you do not purchase or sell anything. You merely bet on the way the stock would go in the future – you buy a futures contract if you think the price would increase in future and sell if you sense the price would decrease. There is always a buyer and seller in every trade but neither owns anything. All that the future trader has to do is deposit enough money with her/his brokerage firm in order to pay up if their trade loses money.
So what exactly are futures?
You buy a futures contract, but what is this futures contract? No need to get boggled by the terminology used. A futures contract is a usual contract, the difference being that you buy or sell at a certain date in the future and at a specified price. Please remember the following terms while agreeing to a futures contract:
· Futures date – Delivery date or final settlement date.
· Futures price – Pre-set price.
· Settlement price – Price of the instrument on the delivery date.
Also remember that if you are entering into a futures contract, then unlike the options contract, both the prospective вЂ˜buyer’ and вЂ˜seller’ are bound by the contract and HAVE to buy/sell the underlying instrument, as the case is.
We are sure you would have understood that in a futures contract, the seller delivers her/his asset to the buyer. In case the futures contract is made on stocks, then cash is transferred from the traders who sustained a loss to the trader who enjoyed profit. Like all other contracts, you can egress from a futures contract also. All that the holder of the futures position has to do is, prior to the settlement date, either sell a long position or buy back a short position thus offsetting his position.
A typical futures contract would have the following features:
1. Underlying asset or instrument – this can be anything from gold and crude oil to a specific stock or share.
2. Type of settlement – settlement can either be monetary (common in India) or physical.
3. Unit of underlying asset per contract – this can be a barrel of crude oil, two kilos of gold, etc.
4. Currency in which the futures contract is quoted.
5. Grade of deliverable – this specifies which bonds can be delivered in case of bonds, while in case of physical commodities this also mentions the manner and location of delivery.
6. Delivery month.
7. Last trading date.
Please note that the Securities and Exchange Board of India (SEBI) regulates futures trading.
We now proceed to the next level – How does futures trading work?
Categorically speaking there are two participants in futures trading – hedgers and speculators. Hedgers, as the name suggests, comprises of those who protect themselves from losses. Using futures as a medium, the raison d’etre is based upon the predisposition of cash prices and futures value to move in tandem.
For easier understanding, let’s take the example of a food processor canning barley. If the price of barley increases, the processor has to pay more to the farmer or dealer. In order to “save money” and keep the price constant, the processor may buy barley futures contract covering the barley amount she/he is to buy. Since cash and futures prices move hand-in-hand, the futures position will profit if barley prices rise enough to balance barley cash losses. Speculators on the other hand, unlike hedgers, can gain and enjoy huge profits if they can read the market well. This is because capital in futures market rises quicker than real estate or stock. Similarly, wrong speculation can cause heavy losses. In futures, unlike stocks, traders put up only a margin, say 10%, since the money thus put up is only a performance bond and not a down payment. The actual value of the contract is exchanged when delivery takes place and this is rare. In addition, the futures investor does not have to pay any interest on the difference between the margin and full contract value. Futures contract is, relatively speaking, a new term in India. A typical contract is settled when the agreement has been abided by. But how are futures contract settled? Buying or selling offsetting position settles futures contract allowing the participant to realise profit/losses. The margin balance along with any additional gains is returned to the holder, or credited towards the holder’s loss. Cash is brought into play only where delivery is impossible.
The option of delivery has been kept open in futures contract so as to ensure that the futures price and cash price of the good congregate at the expiration date. If this does not happen then the trader could purchase at a lower price, sell in the futures market at a higher price and make a handsome profit. Traders can make huge profits from a very meagre difference!
To highlight some advantages of engaging with futures trading:
В· High leverage – Futures trading guarantees excellent profits IF you are a good reader of the market. As stated before, futures trading require only a portion of the contract as вЂ˜margin’. Thus if the investor has deposited 10%, the profit earned will be ten-fold provided, of course, the market prediction is correct. This is better than buying and taking physical delivery of stocks.
· Profit irrespective of market condition – Futures trading also promises profits irrespective of whether the market is at a high or suffering from lows IF chosen correctly.
· Lower transaction cost – Commission for trading a futures contract is one-tenth of a percent while it is as much as one percent for trading stocks!
· High liquidity – Contracts are traded very frequently in most markets on a daily basis ensuring quick market orders’ placement.
Futures trading is today being addressed as the perfect business and there are lots of reasons for this. For one, you only need a computer (your start up cost). You work from your home, no permits or licences required, no employees to handle, no need for advertising, no set hours, no selling, no inventory, no restrictions on markets to trade, no need to worry about which way the market is going as profits are guaranteed, no interest charges, no transaction fees – all these factors, combined with many more, are why futures trading is being talked of as вЂ˜perfect business’.
With dedication and discipline and little help from our newsletter services, we assure constant cash flow for you. Please remember, while all the information will help you to trade better, you will become a better trader only if you are able to read the market well.
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Disclaimer: The purpose of this tutorial is limited to provide knowledge about futures only. We do not guarantee the correctness and authenticity of the material written and the final decision of trading derivatives is totally yours.
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