What Are Options & Derivatives?

Derivatives are financial contracts deriving value from underlying assets (stocks, indices, commodities).

Options are a type of derivative granting the right (not obligation) to buy/sell assets at a fixed price (strike price) by a set date.

Key Terms for Beginners

• Call Option: Right to buy an asset (e.g., Reliance shares) at a strike price.
• Put Option: Right to sell an asset at a strike price.
• Premium: Price paid to buy an option.
• Expiry Date: When the contract expires (weekly, monthly).

Why Use Derivatives?

1. Hedging Risks (Insurance for Your Portfolio)

• Example: Hold 100 Infosys shares worth ₹15,000 each. Buy a ₹14,500 put option (cost: ₹200/share).
  • If Infosys drops to ₹13,000: Exercise the put to sell at ₹14,500, limiting loss.
  • If Infosys rises: Let the option expire, losing only the ₹200 premium.

2. Generating Income (Earn Premiums)

• Covered Call Strategy: Own 100 TCS shares (₹3,500/share). Sell a call option at ₹3,600 strike (premium: ₹50/share).
  • If TCS < ₹3,600: Keep ₹5,000 premium (₹50 x 100 shares).
  • If TCS ≥ ₹3,600: Sell shares at ₹3,600, earning ₹10,000 profit + ₹5,000 premium.

Top 3 Derivatives Strategies for Indian Investors

How to Start Trading Derivatives in India

1. Open a Demat & Trading Account: Use platforms like Zerodha, Upstox, or Angel One.
2. Learn Basics: Complete NCFM’s Derivatives Market Module or NSE’s certification.
3. Practice with Virtual Money: Use Zerodha’s Streak or TradingView’s paper trading.
4. Start Small: Trade weekly Nifty/Bank Nifty options (lower capital requirement).

SEBI Regulations & Tax Rules

• SEBI Guidelines:
  • Derivatives trading allowed only on exchanges (NSE/BSE).
  • Intraday leverage capped at 5x for equities.
• Taxation:
  • Short-Term Capital Gains (STCG): Profits from derivatives taxed at 15% (equity) or slab rate (commodities).
  • Speculative Losses: Can’t offset against other income.

Risks of Derivatives Trading

• High Volatility: Options can expire worthless (e.g., 70% of options traders lose money).
• Leverage Risks: Amplifies losses (e.g., 5x leverage on ₹1L = ₹5L exposure).
• Complexity: Requires understanding Greeks (Delta, Theta, Vega).

FAQs

1. How do options work in the stock market?
   Options let you buy/sell assets at predetermined prices, offering flexibility for hedging or income.

2. What is the best derivatives strategy for beginners?
   Start with covered calls on blue-chip stocks (e.g., HDFC Bank, Reliance) to earn premiums safely.

3. Are derivatives legal in India?
   Yes, SEBI-regulated derivatives (equity, currency, commodity) are legal on NSE/BSE.

Action Steps for You

1. Learn Option Greeks: Understand Delta (price sensitivity) and Theta (time decay).
2. Paper Trade: Test strategies on Zerodha’s Kite platform without real money.
3. Analyze Nifty Options Chain: Identify support/resistance levels for strike prices.

Key Takeaways

• Hedging > Speculation: Use derivatives to protect your portfolio, not gamble.
• Start Small: Allocate <5% of capital to derivatives until proficient.
• Stay Updated: Track SEBI guidelines and global events (Fed rates, geopolitical risks).

Internal Links:

• Day 20: Portfolio Rebalancing
• Day 24: Cryptocurrency Risks

External Links:

• NSE Derivatives Tutorial
• SEBI Derivatives Guidelines