• Investment World
• eWorld
• Catalyst
• Mentor
• Life
• Canvas
• Praxis
• Urban Pulse
• Brand Quest

C. Raja Rajeshwari

* Please clarify whether margin is required to be deposited for options also or only premium is payable. In addition, whether the option could be exercised any time before the expiry. — T.N. Sivasubramanium

* If I am not assigned Nifty options until the expiration day, is there any possibility for me to be assigned after that date (31st July)? — Abdullah

Margin is to be maintained in case you have written/sold an option.

Options that are American in nature can be exercised any time before the expiry. All the options on individual stocks are American in nature. The options on the Nifty are European in nature; they can exercised only at the expiry date.

If you are not assigned on the expiry day there is no way you can be assigned after that. With the expiry of the contracts, your open position also expires.

* I am a regular reader of your article `Using Futures/Options'. I want to know more about the Futures / Options trading, please suggest me some readings/books. — Kumar

The National Stock Exchange (NSE) has a futures and options investor centre, where there is detailed information on derivatives. In addition to this, you can have more detailed information NCFM course material that is also available in www.nse-india.com. You can also refer to our Web site www.blonnet.com or www.thehindubusinessline.com for more information on basics and on concepts on derivatives.

You can also refer books Understanding Options by Robert W. Kolb, Futures markets - theory and practice by Sunil K Parameswaran.

* I have bought an August Reliance Call at the premium of Rs 10. Now my account shows two links one for square off and the other for exercise. I know that we can exercise only when the price is in-the-money. I want to know what will happen when I square off this call option. For your information, the premium on Friday was Rs 8. Will I get back this premium when I square off? — Umarhathab Abdullah

Yes, if you click the square off button, then you will sell a call, which means that you will get a premium of Rs 8. However, effectively, this squared trade will leave you with a loss of Rs 2.

Looking at the calls table, you should be having an August 370 call or a 380-strike call. The Reliance spot closed at Rs 355.

Since you are holding an out-of-the-money call, which has 19 trading days to expire, you can wait and square - off at a later date if needed. If the underlying stock goes up and your call turns in-the-money, you can exercise the option.

* Can you explain the concept behind knock-in/reverse knock-in and knockout/reverse knockout options? — Gangadharan Mani

The payoff (profit) on a Nifty option depends only on the Nifty index level on the expiration date. This means that the profit is the difference between the current level of the index and the strike for call options. For a put, it is the difference between strike and spot.

The payoff that you receive is not dependant on how the underlying index reached the current level — by either moving up or down. This in other terms means, that the options are path independent. The payoff is not affected by the past movement of the underlying stock before the expiry.

However, there are some options are path-dependant, mostly used in foreign currency trades. These payoffs of these options are dependant on the movement of the underlying during the trading period. One such option is the knock-in option.

Example: An airline is concerned about fuel prices, which is currently at Z level. It is afraid that if the prices touch X level, then they will rise to Y level. An ordinary 3-month call at Z level would cost substantially.

Instead, if you have a 3-month call that comes into existence only when the fuel prices touched the X level at a strike price of Z, then the cost of that call will be lower than the conventional option. In addition, you can purchase the fuel at the strike price of X.

# The call is priced lower than a conventional call because it is currently out-of-the-money and the right to purchase of the call will exist only on touching the Y level.

# If the price never rises above Y level, then the call will expire worthless.

# If the price rises above Y level, then the call becomes active. The profit you get would be the difference between the spot and strike.

# The option in the above example is a knock-in option or an `up-and-in' option.

# This name is given because the underlying has to move up to reach the Y level. Once it touches the level, then the option comes to life (in option).

# On the other hand, if the stock has to fall to some level (down) for it to come into existence (in), then it is a down-and-in option.

# This Y level to which it has to fall or rise for the option to come to existence is the barrier price.

# Hence, three prices - current spot price, barrier price and the strike price of the option - should be noted for these options.

# A knockout option is an option, which expires on touching the barrier level. If the spot has to fall to the barrier price to expire then it is a down-and-out option. If the spot has to rise to expire then it is an up-and-out option.

# A knock out option in which the barrier is in-the-money with respect to the strike is called a reverse knockout option.

# A knock-in option in which the barrier is in-the-money with respect to the strike is called a reverse knock in option.

# The higher the implied volatility (IV) of the option, then a knockout provision will be cheaper as the chances of it expiring is more. A knock-in provision will be costlier as the chances of the option coming to life is higher with high IV.

Article E-Mail :: Comment :: Syndication

Stories in this Section
Indo Gulf Fertilisers: Reject

Copyright © 2003, The Hindu Business Line. Republication or redissemination of the contents of this screen are expressly prohibited without the written consent of The Hindu Business Line