The Giant thread of options

[beginner_av]

Here I go...after seeing some requests on options related stuff...I start this thread with a dramatic name.

What this thread is not...
1.IT WILL NOT GIVE ANY TIPS EVER ON BUYING AND SELLING OPTIONS.
2.IT WILL NOT REPEAT THEORY AVAILABLE IN BOOKS ALL AROUND YOU...IF U CANT READ THAT...DONT BOTHER TRADING OPTIONS..send your money to me, I'll give u lot of blessings or send to some charity with 80G benefits
3.IT WILL ELIMINATE ALL THE MATHEMATICS REQUIRED TO TRADE OPTIONS and hence by following this thread you will never be able to become an OPTIONS EXPERT.

DISCLAIMER - This is for educational purposes ONLY. This is not to get you attracted to options trading so that your broker can buy an alpha romeo next.

Why I am doing this? NOT ALTRUISM...to keep my brain from rusting.. and collecting my thoughts together...u can always add reputation points.

So here I start

Some practical ones that noone will tell you
1. Start with more than one broker, so when one is down...u are not down with him..you can always square off or adjust your position
2. Unless you are scalping, DO take a look at weekly and monthly charts
3. Somethings that you may not look when doing TA are extremely essential for options trading - Volatility both IV and Historic. Open Interest. Put-Call ratio
4. Trade only in very liquid stuff...else when the market turns you will be stuck..traders disappear at the drop of a hat
5. Make sure your broker is well capitalized...else brokerwide limit will be reached..you will be sucking your thumbs while the world will make merry
6. Make sure that marketwide limit is not reached...then everyone will suck their thumbs while traders in the cash market will make merry. You will NOT be able to adjust your position

More depending on response

 

[vince]

I did not know that a position taken with one broker can be squared off with another.

Is it ?

Looking forward to the progress of this thread.

 

[bvpraveen]

Here I go...after seeing some requests on options related stuff...I start this thread with a dramatic name.

........

Hi,

Great! All the best.

I just started to learn about Options. I hope to learn lots of stuff from this thread.

Praveen.

 

[beginner_av]

hey vince that is something as "virtual" square off in the sense you write with one broker...but buy the same instrument with another broker...this is the only possible route rather than twiddling your thumb nervously or cursing in case of sudden huge movement when one of your brokers is down. The flip side is that your transaction costs become higher (better than a big loss).

 

[vince]

Ok, so you mean get market neutral, since you cant do squat (lol) if one broker is down. Right.

Thanks for clarifying.

 

[RAMDAS]

5. Make sure your broker is well capitalized...else brokerwide limit will be reached..you will be sucking your thumbs while the world will make merry
6. Make sure that marketwide limit is not reached...then everyone will suck their thumbs while traders in the cash market will make merry. You will NOT be able to adjust your position

Hi beginner_av,

Thanks for starting Good thread for Option.

Regarding your point 5 and 6. need further clarification.
e.g. Say if i am holding NIFTY call 4000 option...expiry March 29.... and if "brokerwide limit will be reached" limit is reached... is that means i will not be able to close my pos even it is in profit ???? due to broker problem. and finaly land in expiry worthless ??? with loss..

and same will happen in case of " marketwide limit reached" and finally i will be in loss.. ???

Thanks for your help
Ramdas

 

[beginner_av]

Hi Ramdas,
dont worry...when limit is reached you can ALWAYS square off existing positions. You cannot initiate new positions. The limit is reached only when a certain no of contracts are created. Unlike stocks where there are a certain no of company shares floating in the market, options (and futures) are intangible assets (options are also wasting...but more on it later)..they are created when one buyer and a seller enter into a contract...both of them anticipating a future price for the underlying instrument. Obviously the buyer anticipates a higher price...and seller a lower price. Every such new buyer AND seller adds to a contract. But suppose you already hold a buy contract with some unknown seller (hypothecally say say m). now a new buyer n comes to you and you sell your contract to him. actually you have transferred your ownership to n...who now holds the buy contract with m the seller. No new contract is created here. In cas of limit wide position being reached...the people holding the buy and sell contracts can trade with each other and reverse the positions...thereby reducing the number of contracts (since no new contracts can be formed). So you can always square off your position.

New + New = 1 New contract
Existing + New = No New contract (just transfer of ownership)
Existing + Existing = 1 contract reduced

 

[beginner_av]

Thanks praveen and vince. good to see clarifications coming in so fast. Since this involves the first point, lets dissect it thoroughly before proceeding further. Why do we need more than one broker. Simple reasons...and they apply to all forms of trading..when one is not accessible you access the market through other. But here are some finer points. It is wise to choose brokers who take fixed fee for FNO. No names here...but say X for Rs. 75 per lot or Y for Rs 999 per month + Rs 9 per contract etc. Why? You save money substantially as you adjust positions.

And coming to the point of vince, why did I use the word square off in place of market neutral (Vince is absolutely right in calling it market neutral)? Because from experience I have seen the following.

In options trading there are three possibilities

1 - you square off outright

You square off based on your trading rules when you know that your condition has been met ( a loss, a profit, a target etc).

2. You hold till expiry You hold till expiry
a)only if the conditions are going in your favour. For example you bought calls for XYZ 55 at Rs. 2 when XYZ traded at Rs 52. Today XYZ is at 58.

or

b)the loss is insignificant for you. E.g. you bought Calls at 70 for 15 paise and there are 3 days to expiry. If u square off now for 5 paise it causes more damage than good if you take brokerage into
consideration.

and

c) in the worst case...you HOPE that the conditions will go in your favour ie today the stock is selling at 54 and you hope that in the next 3 days you anticipate that it will go to 58.

3. You adjust the position based on your strategy. For example you write another 60 call for Re.50 or square off 55call for Re1 and write 50 call for RS 5.25 etc.

So if you are not doing 2 or 3, and decided to square off outright, it is advisable to do so with the other broker outright (remember we are talking about this because we are using the other broker) and forget about it..as if you have squared it off. ONLY Remember to exercise it if it is in the money on the day of expiry. Hence I used the word SQUARE OFF. You may ask why. Well u know, fisrt of all you (virtually) squared off the position because it went against you or triggered your square off rule. Then why should you come back to it again. Learn your lessons and look for other opportunities which incidentally may be in the same stock.

Two..when you are spread across two brokers in very high probability you will be filled at different prices if you are going to close one part of your market neutral position thereby losing more money. Say you bought for Rs 4.5 from broker A...he goes down..market moves against you and you go to
broker B. You sell the same contract with same expiry at Rs 2.50, your loss without transaction cost is Rs. 1.50.

So your position is now

Broker A XYZ call buy Rs.4.5
Broker B XYZ Call sell Rs.1.5

Now when the instrument cost is Re 1 you want to close both the positions across two brokers to clear the entire transaction. For that you have to sell from broker A account and buy at broker B account.
This may not be possible...as you may end up sellig at broker A account at 0.95 and by the time you buy from broker B it may be 1.05. plus you pay brokerage for two more transactions.

PS I put this at end of a tiring day...so do let me know if there are typos etc.

 

[bvpraveen]

5. Make sure your broker is well capitalized...else brokerwide limit will be reached..you will be sucking your thumbs while the world will make merry
6. Make sure that marketwide limit is not reached...then everyone will suck their thumbs while traders in the cash market will make merry. You will NOT be able to adjust your position

Hi,

Can you please explain what does brokerwide limit and marketwide limit actually mean?

Is it like only this much of contracts can be made through this broker or in market?

Thanks,
Praveen.

 

[bvpraveen]

Hi Avi,

One more doubt:

Say person A and person B enters into a contract, where person B writes the option and person A is the option holder.

Now person A trades this option to person C. ie, person C buys the option contract from person A.

Now when the person C tries to exercise his option, is it that ONLY person B will be assigned to him? Because the option contract which he holds is that of person B, who has actually written the option.

Why this doubt is because, I came across the procedure called, "Assignment", where the actual option seller is assigned randomly from the pool of option writers.

So when person C exercises his option, who is the ultimate option writer, ie the person having the obligation to deliver the underlying? Is it person B or a random person?

I hope the question is clear.

Thanks again,
Praveen.