Options Trading

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Options Trading: Using Techinical Analysis As An Effective Tool For Trading ? A Live ...

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Options Trading: Using Techinical Analysis As An Effective
Tool For Trading ? A Live Study
Jargon Management
Student Speak

Wed, 16-Oct-2002 16:24:01
IST (GMT+5:30)

Options Trading: Using Techinical Analysis As An
Effective Tool For Trading – A Live Study
INTRODUCTION TO OPTIONS AND TECHNICAL
ANALYSIS

Damagement lessons
l

Objective

l

What is an Option

l

Some Important Terms in Options

Operations Management

l

An Example

Financial Management

l

The Indian Scenario

HR Management

l

Advantages of Option trading over Share trading

Marketing Management

l

What is Technical Analysis

Cyber Trek
General Management

Message Boards
Post a message

Quick Search
Enter IIL company code

Look up code
l

Advantages of Technical Analysis

l

The Simple Moving Average Method

l

A Live Study of Trading in Option Markets using the
Simple Moving Average Method

Systems Management

Subscribe to IIL
Newsletters

Entrance Guide
Career Guide
Placement Guide

1. Methodology used for the study
2. Illustration

Case Studies Quiz

Drop us a line
Drop us your queries
& suggestions

3. Results
Entrepreneur MBA

4. Caution
About us
OBJECTIVE:

http://www.indiainfoline.com/bisc/opti.html

12/6/2002

Options Trading: Using Techinical Analysis As An Effective Tool For Trading ? A Live ...

Disclaimer

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Objective of this paper is to give an introduction to Options
and Technical Analysis and more importantly give an
idea as to how Technical Analysis could be used to get
handsome returns in the Options market.
WHAT IS AN OPTION:
An Option is a financial asset, which is linked to another
physical asset, in our case it is equity shares. A Share
Option is a right to buy or sell a share at a particular price
and the Option is exercisable at the choice of the Option
buyer.
Right to buy is known as a Call Option
Right to sell is known as a Put Option
Thus, for example if Mr. A buys a CALL OPTION from Mr.
B and the share price rises Mr. A will exercise the Option
and buy the share at the decided price, however if the price
falls, Mr. A has the option of not exercising his right.
IMPORTANT TERMS IN OPTIONS:
STRIKE PRICE: the price of the underlying share at which
the Option is taken
PREMIUM: the price paid for purchasing the Option
EXPIRY PERIOD: the period for which the Option is valid
and can be exercised
CONTRACT SIZE: there is a market lot for each Option ,
e.g. Infosys – 100 shares , Satyam – 1200 shares
AN EXAMPLE:
Let us take an example to understand the above terms:
Mr A. buys one contract of call Option of Infosys @
3700 for a premium of Rs. 120/- for the month of
October 2002.
*3700- Strike Price
*October 2002- Expiry Period
Thus, it basically it means that the Option buyer has the
right to buy the share of Infosys at a price of Rs. 3700/-,
whatever is the actual share price. Thus, if the share price
rises to Rs.4000/-, the Option seller will pay him the
difference of Rs. 300. However, if the share price falls to
Rs. 3400/-, the Option buyer does not have to pay anything
and loses the premium, which he initially paid.

http://www.indiainfoline.com/bisc/opti.html

12/6/2002

Options Trading: Using Techinical Analysis As An Effective Tool For Trading ? A Live ...

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THUS, AN OPTION BUYER HAS LIMITED LOSS AND
UNLIMITED GAINS WHEREAS AN OPTION SELLER
HAS LIMITED GAINS AND UNLIMITED LOSS
Depending upon the difference between the share price
and the strike price.
THE INDIAN SCENARIO:
Share Options were introduced in India from July 2001,
after the Ketan Parekh Scam. On May 14, 2001 the ageold carry forward system or badla, was banned from July 2,
200, which had basically allowed Ketan Parekh to rig
prices. Futures and Options were started in place of the
Badla system. This move was SEBI’s attempt to adopt
practices in line with the norms of developed markets.
Also, to provide a hedging tool and to separate the
speculators from the cash market, so that only real
investors were present in the share market.
The Derivatives market is still in a nascent stage but is
rapidly growing. The Current Daily Turnover in Stock
Options is approximately Rs. 200 - 300 crores.
Another important feature of the Indian market is that there
is only cash settlement of Options. This means that one
cannot take or give delivery of shares by exercising his
Option.

ADVANTAGES OF BUYING
BUYING OF SHARES:

OF

OPTIONS

OVER

1. Limited Loss, Unlimited Gains

Thus we can see that in Options, the loss is restricted.

http://www.indiainfoline.com/bisc/opti.html

12/6/2002

Options Trading: Using Techinical Analysis As An Effective Tool For Trading ? A Live ...

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2. Lesser Investment, Thus Better returns
We can see that to purchase 100 shares of Infosys one
would require Rs. 3,60,000/-. However, to purchase the
same Option one would require in the range of Rs. 8000 –
10000. Thus, if the share rises to Rs. 3900, one would get
a 8% return, however the same would be a 200% return in
Options.

3. Double Sided Protection
A person can buy a Call as well as a Put Option, thus he
would make a profit as long as the share moves beyond
the premium he has paid.
However, no short selling is permitted in the share market;
hence one can make a profit only in case of a share price
rise.
Now, Let us know a bit about Technical Analysis:
WHAT IS TECHNICAL ANALYSIS:
It is essentially a tool, which on the basis of past trends in
the share price tells an investor whether to buy or sell or
hold a share
ADVANTAGES OF TECHNICAL ANALYSIS
With the help of Technical Analysis, the Investors and
traders can enter the stock (long or short) when it starts
trending, instead of locking their money during the periods
of consolidation.

http://www.indiainfoline.com/bisc/opti.html

12/6/2002

Options Trading: Using Techinical Analysis As An Effective Tool For Trading ? A Live ...

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Thus, it as a very good tool for short term investing.
SIMPLE MOVING AVERAGE METHOD:
For my analysis I have considered the simplest method of
Technical Analysis, the simple moving average method.
Steps for getting a Buy or Sell signal in the Simple
Moving Average Method:
Calculate the moving averages:

Plot the graph for both the share price and the moving
average:

Buy signal - the share price line cuts the moving average
from below or in the excel worksheet when the difference
becomes positive from negative

http://www.indiainfoline.com/bisc/opti.html

12/6/2002

Options Trading: Using Techinical Analysis As An Effective Tool For Trading ? A Live ...

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Sell signal - the share price line cuts the moving average
from above or in the excel worksheet when the difference
becomes negative from positive
Now let us get to the most important part of the paper:
A LIVE STUDY OF TRADING IN OPTION MARKETS
USING SIMPLE MOVING AVERAGE METHOD:
Methodology Followed for the Study:
Selection of stocks:
The ten most actively traded stocks in the Option market
on NSE were selected.
Period of Study:
1st August 2001 to 31st July 2002
Technical Analysis Method Used:
10-day simple moving average as explained earlier.
Strategy Used:
l
l
l

l

l

Trading in Options with expiry of ongoing month
Purchase of one contract at a time
Buy a call Option at each buy signal and sell the
already bought put Option
Buy a put Option at each sell signal and sell the
already bought call Option
The Option is bought and sold at the opening price
of the next the day the signal has been received

Illustration:
Let me illustrate to you for the month of October 2001 for
Infosys, how the trades would have taken place using the
above strategy.
The share prices are given in the above excel table. So we
start with a buy signal on 5th October 2001. For Infosys,
the market lot is 100 shares.
In the Options market:
BUY

SELL

Strike
Buy
Sell Profit /
Date Option
Premium
Date Premium
Price
Value#
Value@ (Loss)
8/10

Call

2500

9/10

Put

2200

10/10 Call

2600

http://www.indiainfoline.com/bisc/opti.html

96.00

9,900 9/10

100.20 10,320 10/10
85.00

8,800 24/10

102.00

9,900

0

94.00

9,100 (1,220)

**

51,950 43,150

12/6/2002

Options Trading: Using Techinical Analysis As An Effective Tool For Trading ? A Live ...

Total 29,020

Total

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70,950 41,930

# includes brokerage
@ is net off brokerage
** is the expiry date of the Option and the difference
between the strike price and the closing price on the
expiry date , will be received in cash. In this case
3123.50 (the closing price on 24th) less the strike price
i.e. 2600.
Thus, rate of return is approximately 320%. Net Profit of
Rs. 41,930/- on an average investment of Rs.10,000 /-.
In the shares market:
BUY
Date

SELL

Buy
Price

Buy
Value#

Date

Sell
Price

Sell
Value@

Profit /
(Loss)

8/10

2,375

2,37,800 9/10

2,402

2,40,500

2,700

10/10

2,540

2,54,300 24/10

3,022

3,01,900

(1,220)

Total

4,92,100

Total

5,42,400

50,300

# Includes brokerage
@ Is net off brokerage
Thus, rate of return is approximately 20%. Net Profit of
Rs.50,300/- on an average investment of Rs.2,46,000/-.
The same has been done for the ten most actively
traded Options and for the period August 2001 to July
2002.
Results of the Analysis:
In the Options market:

Scrip

Market
Lot

Total Annual
Profit

Avg
Monthly
Investment

Monthly Rate
of Return

A

B

C

D

E = ( C / 12 ) /
D * 100

Hindustan
Petroluem

1300

202,520

10,146

166

Infosys

100

194,042

10,293

157

Digital

400

144,840

9,345

129

Satyam

1200

121,740

12,044

84

Telco

3300

118,995

9,568

104

Tisco

1800

60,390

6,480

78

Bharat Petroleum

1100

37,805

7,880

40

600

32,892

4,224

65

600

32,010

7,183

37

1000

20,600

9,472

18

965,834

86,635

93

Sterlite Optical
Reliance
Industries
L&T
TOTAL

http://www.indiainfoline.com/bisc/opti.html

12/6/2002

Options Trading: Using Techinical Analysis As An Effective Tool For Trading ? A Live ...

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In the shares market:

Scrip

Market
Lot

Total Annual
Profit

Avg
Monthly
Investment

Monthly Rate
of Return

A

B

C

D

E = ( C / 12 ) /
D * 100

Hindustan
Petroluem

1300

1,74,135

2,70,845

5

100

18,975

3,54,570

0.5

Digital

400

58,080

2,08,623

2

Satyam

1200

72,360

2,67,227

2

Telco

3300

2,07,900

3,76,411

5

Tisco

1800

1,02,420

1,82,484

5

Bharat Petroleum

1100

1,16,600

2,60,976

4

600

-5,580

82,505

-

600

5,670

1,73,800

0.2

1000

35,850

1,87,370

2

7,86,410

23,64,811

3

Infosys

Sterlite Optical
Reliance
Industries
L&T
TOTAL

Thus, we see that although the profits are high in both
cases , the investment required for shares is almost twenty
– five times.
Lets see a graphical presentation of the annual profit and
the above rate of returns.
ANNUAL PROFIT:

MONTHLY RETURN:

http://www.indiainfoline.com/bisc/opti.html

12/6/2002

Options Trading: Using Techinical Analysis As An Effective Tool For Trading ? A Live ...

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A Word of Caution:
Although the above profits have been calculated using
actual market data, there is no certainty that the same
trends will continue in the future and one needs to
keep on revising their strategy.
HAPPY TRADING ON OPTIONS
SOURCES OF DATA FOR ANALYSIS
www.nseindia.com
www.icicidirect.com
Sandeep Nene,
IIM Indore
Sectors: Auto - FMCG - Pharma - Oil & Gas - Infrastructure - Infotech - Steel - Special: Ketan Parekh Saga - Budget - Personal Finance Money - Orange-GTM
© Copyright 2002 India Infoline Ltd. All rights reserved.Regd. Off: 24, Nirlon Complex, Off W E Highway, Goregaon(E) Mumbai-400 063.
Tel.: +(91 22) 685 0101/0505 Fax: 685 0585

http://www.indiainfoline.com/bisc/opti.html

12/6/2002

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