Financial Daily from THE HINDU group of publications
Sunday, Jul 25, 2004
Financial Daily from THE HINDU group of publications Sunday, Jul 25, 2004 |
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Investment World
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Derivatives Markets Markets - Derivatives Markets Query corner - F&O
How can I use options? 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. The decision as to what type of option to buy is dependent on whether your outlook for the respective security is positive (bullish) or negative (bearish). If your outlook is positive, buying a call option creates the opportunity to share in the upside potential of a stock without having to risk more than a fraction of its market value (premium paid). Conversely, if you anticipate downward movement, buying a put option will enable you to protect against downside risk without limiting profit potential. Purchasing options offer you the ability to position yourself accordingly with your market expectations in a manner such that you can both profit and protect with limited risk. Once I have bought an option & paid the premium for it, how does it get settled? 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: * You can sell an option of the same series as the one you had bought & close out /square off your position in that option at any time on or before the expiration. * You can exercise the option on the expiration day in case of European Option or; on or before the expiration day in case of an American option. In case the option is `Out of Money' at the time of expiry, it will expire worthless. What are the risks for an Option buyer? The risk/ loss of an option buyer is limited to the premium that he has paid. What are the risks for an Option writer? 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. The writer of a put option bears a risk of loss if the value of the underlying asset declines below the exercise price. The writer of a put bears the risk of a decline in the price of the underlying asset potentially to zero. Source: www.bseindia.com
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