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What are index options?

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Index Options

In the Indian options market, index options are much more popular and liquid. An index option is a financial derivative that gives the right, but not the obligation, to buy or sell the value of an underlying index. It always has a strike price, an expiration date, and an underlying index that the possibilities follow. All are cash-settled. Just like a stock is an option on a stock, an index option is an option on a well-accepted index like Nifty, Sensex, Bank Nifty, etc. In addition to the definition of index options, let’s also look at what index options are conceptual. Here is a brief description of what indexing options are, the types of indexing options, and how and when to use them.

Types of Index Options

Index options are derivatives, meaning their value is derived from changes in the underlying index. Popular indices in India are Sensex, Nifty, Bank Nifty, and Nifty Financial Services. If you want to look at these indexes instead of individual stocks, you can use index options. You can also use it to hedge your portfolio using reverse index options to hedge.

Typically, index options are available where futures are already available, so there is a benchmark for option pricing. Lot sizes, strike prices, and different expiration times are then set for the index options, and after standardization, they are ready and set for trading. Unlike futures, which are a type of stand-alone product that benefits either the buyer or the seller, the index options trader is much more asymmetric. It means; the buyer of index only pays the premium, and this is also his biggest possible loss.

Let’s quickly go a step further and look at the types of index options. It can be classified in three ways as below.

● Of the index options, the index call is the right to buy the index, and the index option is the right to sell the index. The first is a bullish view while the second is a bearish view.

● You can also classify index options as ITM / OTM / ATM options. In-the-money or ITM options are index options that are profitable when exercised. OTM options are not profitable when exercised. To simplify, if you have a call option on Nifty 15,800, the option is ITM if Nifty is 15,810, and OTM if Nifty is 15,790.

● Currently, the Indian market allows you to trade Nifty and Bank Nifty options on a monthly and weekly basis. Monthly options expire on the last Thursday of the month, while weekly options expire every Thursday.

What are the options?

Options are the right to buy or sell an underlying asset without the obligation to buy or sell the underlying asset. Underlying assets can be not only stocks or commodities but also fictitious assets such as indices and currencies. The buyer of an option has a right without an obligation, for which he pays a premium. The seller of an option has an obligation without a right, for which he receives a reward.

Closing of Transactions

As with stock options, the writer of an index option who wishes to close his position buys the contract from the market under the same conditions, to avoid surrender and associated liability, the option writer must purchase this contract before the close of business on any given day to avoid possible surrender on the next business day. To close the long position, the buyer of the index option can either sell the contract in the market or exercise it, if it is profitable.

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Table of Contents

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• Do not keep funds idle with the Stock Broker. Please note that your stock broker has to return the credit balance lying with them, within three working days in case you have not done any transaction within last 30 calendar days. Please note that in case of default of a Member, claim for funds and securities, without any transaction on the exchange will not be accepted by the relevant Committee of the Exchange as per the approved norms.

• Check the frequency of accounts settlement opted for. If you have opted for running account, please ensure that your broker settles your account and, in any case, not later than once in 90 days (or 30 days if you have opted for 30 days settlement). In case of declaration of trading member as defaulter, the claims of clients against such defaulter member would be subject to norms for eligibility of claims for compensation from IPF to the clients of the defaulter member. These norms are available on Exchange website at following link: NSE, MCX

• Brokers are not permitted to accept transfer of securities as margin. Securities offered as margin/ collateral MUST remain in the account of the client and can be pledged to the broker only by way of ‘margin pledge’, created in the Depository system. Clients are not permitted to place any securities with the broker or associate of the broker or authorized person of the broker for any reason. Broker can take securities belonging to clients only for settlement of securities sold by the client.

• Always keep your contact details viz. Mobile number/Email ID updated with the stock broker. Email and mobile number is mandatory and you must provide the same to your broker for updation in Exchange records. You must immediately take up the matter with Stock Broker/Exchange if you are not receiving the messages from Exchange/Depositories regularly.

• Don’t ignore any emails/SMSs received from the Exchange for trades done by you. Verify the same with the Contract notes/Statement of accounts received from your broker and report discrepancy, if any, to your broker in writing immediately and if the Stock Broker does not respond, please take this up with the Exchange/Depositories forthwith.

• Check messages sent by Exchanges on a weekly basis regarding funds and securities balances reported by the trading member, compare it with the weekly statement of account sent by broker and immediately raise a concern to the exchange if you notice a discrepancy.

• Please do not transfer funds, for the purposes of trading to anyone, including an authorized person or an associate of the broker, other than a SEBI registered Stock broker.

• Do not deal with unregistered intermediaries (who are not registered with SEBI/Exchanges).

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