Top 10 Beginner’s Question on Options?

This item was filled under [ Traders zone ]

1. What is an option?

An valid tradable instrument, the holder of which has the right, but no obligation to buy or sell the stock or underlying instrument. Generally the buyer will pay some price to get this right (called premium).

The seller of option will have OBLIGATION to buy or sell the underlying stock/instrument, if the owner of option decides to exercise their right.

2. What are the specifics of an option?

An option is made up of following

- Underlying stock or other instrument

- Option type as CALL or PUT

- Strike price

- Option type as CALL or PUT

- Expiry date

The different combination of above 4 parameters gives us a unique tradable option chain. eg – NIFTY 5200 CALL  26-Apr-2012

3. What is a CALL option?

An option that gives you the RIGHT  to BUY the underlying stock/instrument at agreed price (called strike price), before agreed date (called expiry date).  The person who is selling you the CALL option carries the obligation to deliver you the stock/instrument, if you decide to exercise your right.

4. What is a PUT?

An option that gives you the RIGHT  to SELL the underlying stock/instrument at agreed price (called strike price), before agreed date (called expiry date).  The person who is selling you the PUT option carries the obligation to take the delivery from you of stock/instrument, if you decide to exercise your right.

5. What are the two considerations in determining the value of an Option?

The value of option is determined mainly by the volatility of the underlying instrument and the distance of option expiry date from today i.e.life of option.  More volatile the instrument, or longer the life, costlier the options will be.

6. What are the 3 instruments for trading?

The underlying stock, CALL options on the underlying stock and PUT options on the underlying stock are the three types of instrument for trading.

7. What are the 6 actions that can be taken?

One each of the above 3 instruments, one can take BUY or SELL actions e.g. – Buy stock, Sell stocks, Buy Call option, Sell Call option etc. That gives us overall 6 types of actions.

8. What is an option chain?

An option chain is unique combination of 4 parameters given in question 2 above. Each combination is a tradable instrument on its own. eg Nifty 5200 CALL 26-Apr-2012 ang NIFTY 5300 PUT 26-Apr-2012.

9. I have small account size. Can I trade options and make big returns ?

Chances of this happening is very close to zero. Due to small account size, you might end up taking big risk as %age of the account with options. Options are traded in lot size (i.e. minimum quantity for buy or sell), hence the risk will always be in multiple of that lot size.  If you trade stocks, this minimum quantity is 1 hence you have much better control on the risk.  It is true that %age return can be large in option trade but this can also hit adversely as risk is also high %age term.

My suggestion will be to learn the basics of trading first. If account is small then, use stocks for this learning. Once you have consistent and profitable performance, then move into options trading. That too with appropriate account size.

10. How /where to learn option trading?

Please go through this post “How to learn options trading” where I have given my suggestions on how to get started in options trading. In case of any questions, feel free to leave comment or contact me.

Happy Trading

How to learn trading options?

This item was filled under [ FAQ, How-To, Knowledge ]
Where to Start in Options Trading
This post is not related to SPREADs but it is my thoughts about learning that one needs to start properly in OPTIONS TRADING. It was in reply to following question –
Quote:
I want to learn options trading. Do we have to be well versed with the equity trading. To be frank I have a year and half exp in swing trading that too not a active participant.
AW10,Lazytrader, Kindly inform me the ways to learn options from beginning that too very basics. Have gone through the websites provided earlier and was able to grasp some of the stuffs. However, will appreciate if explained in detail step to step to gain the knowledge of options trading.
tvrssvk , I will attempt to give u very practical answer to start in options trading.
1) To make money in any trading (be it a house, stock, goods, options or anything), very first thing to know is the direction of the market. Can u make money by buying something, when market is falling. So very first thing you need to learn is to identify the current trend of the market (up, down or sideway). Better u are in this, solid is your foundation. E.g. – If you are in Nagpur and want to go to Delhi, then first thing u have to do is to be on platform where Northbound trains are arriving, and then u need to board the right train for your destination. No great deal but just common sense.. But u will surprised to see how often it is not followed in market where people buy, when market is going south.
2) Once u know the direction of market or stock that u want to trade, then choose appropriate option strategy for this.
3) There 6 basic risk graphs in core option and stock strategy. All other strategy is just combination of these 6 basics. They are – Buy Stock, Sell stock, Buy Call, Sell Call, Buy Put, Sell Put. Spend as much time as required to understand them on parameters I am going to mention in next point.
4) For any strategy (including the 6 basic one), know how they are constructed, what is max risk, what is max reward, where is BREAK-EVEN point, How the risk graph looks like at expiry, suitable market condition favourable for these strategies. Once, you should be able to draw risk graph without any option analysis tool, then u pass out from this stage.
5) Understand the concept of option pricing, intrinsic value and time value, the factors that affect option premium. Focus on not the theory, but how change in those factors will affect the premium. Watch them in real life, experiment with them using option calculator.
6) At advance stage, u can look at transition of risk graph from now to final stage at expiry, various option Greeks etc., various strategies that are combination of 6 core strategies. This is the stage, I will advise one to start using a tool. IMO, A professional’s doesn’t become handicap without a tool. He/she know how to work without tools.. And if they are given the tools, then their performance and efficiency zooms. They know what they are doing, or what they want to do because they have solid foundation. IMO, a great tool in the hand of a monkey is no different from a banana or a stone in its hand. Cause monkey doesn’t know how to get best from it. But give a great tool a professional, and see the difference.
There are different approach to get above (read books, take mentorship, play in market and learn the hard way, go-to school/collage etc). The decision is yours. But be careful about selecting the place or option that u are going for. If u read wrong book, go to wrong person for training, do wrong course, etc, you will be just wasting your resources (time, money, energy etc.).
This is just to give base in option trading, so that u can plan an option trader properly. Remember, that doesn’t make you a trader still. Trading involves Money mgmt, psychology, risk mgmt, system testing etc which is beyond the scope of this post.
Last but not the least, there is not defined path that u need to follow to get started in options trading like first stocks, then futures, then options. If it is done appropriately, then you can start directly in options, without getting into stocks etc. If you know stock trading (better have good track record in stock trading), then few initial steps are not required.
But that is not limitation, even if you have never traded stocks. As long as you learn to read market trend, you can start with options trading.
LEARNING MATERIAL
There are many good resources available on internet to learn about Options. Some of them are:-
1) CBOE dot COM site // Learning Center section
2) 888Options dot COM site
3) NSE site // “Home > NCFM > NCFM Modules” section and check out the study material on following modules
- Equity Derivatives: A Beginner’s Module
- Derivatives Market (Dealers) Module
- Options Trading Strategies Module
4) INVESTOPEDIA dot COM

I get many requests from readers who want to start trading in Options, but lost about the path to take. In this post, I am suggesting a possible direction that should help any new option trader to get establish solid foundation for their trading.

1) To make money in any trading (be it a stock, futures, options or anything), very first thing to know is the direction of the market. Can you make money by buying something, when market is falling ? So very first thing you need to learn is to identify the current trend of the market (up, down or sideway). Better you are in deciding the trend, stronger is your foundation. E.g. – If you are in Nagpur and want to go to Delhi, then first thing u have to do is to be on platform where Northbound trains are arriving.

2) Once you know the direction of market /instrument that you want to trade, then choose appropriate option strategy for this. There are options strategies for each type of market conditions offering different return-risk profile that may suit you.

3) There 6 basic risk graphs in core option and stock strategy. All other strategy is just combination of these 6 basics. These core risk graphs are for – Buy Stock, Sell stock, Buy Call, Sell Call, Buy Put and Sell Put position. Spend as much time as required to understand them on parameters I am going to mention in next point.

4) For any strategy (including the 6 basic ones), know

  • How they are constructed
  • What is max risk,
  • What is max reward,
  • Where is BREAK-EVEN point,
  • How the risk graph looks like at expiry,
  • What are suitable market condition favourable for these strategies.

Once, you should are in a position to draw risk graph without any option analysis tool, then you pass out of this stage.

5) Understand the concept of option pricing, intrinsic value and time value and the factors that affect option premium. Focus not just on the theory, but also on how changes in those factors will affect the premium. Watch them in real life, experiment with them using option calculator, take notes and track them over next few days using real market data.

6) At advance stage, you can look at transition of risk graph from now to final stage at expiry, various option Greeks etc., various strategies that are combination of 6 core strategies. This is the stage, I will advise one to start using a tool. IMO, A professional doesn’t become handicap without a tool. He/she knows how to work without tools. But when they are given the tools, then their performance and efficiency zooms. They know what they are doing, or what they want to do because they have solid foundation. IMO, a great tool in the hand of a monkey is no different from a banana or a stone in its hand. But give a great tool a professional, and see the difference.

There are different approach to cover above points (read books, take mentorship from experienced and successful trader, play in market and learn the hard way, go-to school/collage etc). The decision is yours. But be careful about selecting the place or option that you are going for. If you read wrong book, go to wrong person for training or do wrong course, you might end up  just wasting your resources (time, money, energy etc.).

This is just to give base in option trading, so that you can plan an option trader properly. Remember, that doesn’t make you a trader still. Trading involves Money management, developing right trading psychology, risk management, developing suitable trading system etc. All those areas are beyond the scope of this post but please don’t ignore them.

Last but not the least, there is no single defined path that you need to follow to get started in options trading e.g.first trade stocks, then futures, then options. If it is done appropriately, then you can start directly in options, without getting into stocks etc. If you know stock trading (better if you have profitable track record in stock trading), then few initial steps are not required.

But that is not limitation, even if you have never traded stocks. As long as you learn to read market trend, you can start with options trading.

LEARNING MATERIAL

There are many good resources available on internet to learn about Options. Some of them are:-

1) Learning Center section on www.cboe.com

2) 888Options.COM

3) NSE site // *Home > NCFM > NCFM Modules” section and check out the study material on following modules

- Equity Derivatives: A Beginner’s Module

- Derivatives Market (Dealers) Module

- Options Trading Strategies Module

4) WWW.INVESTOPEDIA.COM

NIFTY Weekly price action analysis – 14-October-2011

This item was filled under [ Traders zone ]

Here is the Nifty weekly chart with trend lines, trend channel and swing points marked on it.

Nifty weekly price action based analysis

Nifty weekly price action based analysis

Let’s take a look at NIFTY’s weekly chart and do the analysis based on facts shown by price action-

Bullish reasons -
1) We have got a new pivot low confirmed at 4730.

2) Strong bullish bar with close at upper end.

3) Increase in volume with bullish price action.

Bearish reasons -
1) Price is still below the crucial resistance level of 5180 / 5200.

2) Long term price trend channel is still pointing down

Interpretation and possibilities for next week -
As a trader, we have to be prepared to face anything that market throws on us. So lets see what might come in next week.
1) Nearest supply zone of 5200 level to be watched closely in next week. Market has still not tested this level yet.

2) Possible support of 4720 level has worked in this week and gave us nice bounce. It resulted in Hammer candle. I would like to see higher volume and close in top 10% for a hammer.  As expected, we got higher volume this week and strong bullish candle closing in top 10%. This indicates the strength of 4720 support level.

3) Volume has increased this week. My view of short term accumulation by smart-money is turning out to be correct as prices are moving up with strong candle. It is still not bullish move but in a sideway range with short term bullish bias.

4) Lower swing low at 5200 level is still not broken. As this level is below the long term bullish trend line from March-2009 low, it confirms that the trend line is broken. In other words the Bull market that started from March-2009 low is over. The long term direction of market is down and the deciding trend line for this is the down sloping line starting from 6300 high made in Oct-2010.

Important levels to watch for – For up-move – 5150, 5200, For down-move – 4880, 4720. For sideway – 4880, 5150..

Hope this analysis helps you in forming your own views on market. Feel free to drop your comments on the post. Let me know if you would like to see something more in the analysis.

Disclaimer These are my views on the market and I could be wrong in reading it. Please use your own judgment and make sensible trading decision based on your own analysis.

NIFTY Weekly price action analysis – 07-October-2011

This item was filled under [ Traders zone ]

Here is the Nifty weekly chart with trend lines, trend channel and swing points marked on it.

Nifty weekly price action analysis

Nifty weekly price action analysis

Let’s take a look at NIFTY’s weekly chart and do the analysis based on facts shown by price action-

Bullish reasons -
1) There was large pullback from the low of 4720 and bar closed marginally in green.

2) Hammer candle is formed, though not very strong as the weekly close is roughly 20% of range below the high. For strength of hammer, I would like to see the close being in top 10% range.

Bearish reasons -
1) This week has given lower high and lower low too. Hence down trend continues.

2) Volume this week has been lower then previous 4 weeks. The low volume gives me doubt on strength of hammer candle. Lets see what happens in next week.

Interpretation and possibilities for next week -
As a trader, we have to be prepared to face anything that market throws on us. So lets see what might come in next week.

1) Nearest supply zone of 4950/5170 level worked last week and it also hold as resistance during this week too. As anticipated last week that 5000 levels will act as new supply zone, it turned out to be true this week when price struggled to stay above 5000 and finally dropped and closed below this.

2) Possible support of 4720 level has worked in this week and gave us nice bounce. It resulted in Hammer candle. I would like to see higher volume and close in top 10% for a hammer. Hence would like to wait for next weeks action to tell me more about it.

3) Volume has been lowest of last 5 weeks. I would like to watch it closely during next week for break or support of 4720 level. Else my view of short term accumulation by smart-money will be supported. My tracking of FII flows also giving the sign of short term bottom formation.

4) This weeks lower high bar resulted in giving us lower swing low at 5200 level. As this level is below the long term bullish trend line from March-2009 low, it confirms that the trend line is broken. In other words the Bull market that started from March-2009 low is over. The long term direction of market is down and the deciding trend line for this is the down sloping line starting from 6300 high made in Oct-2010.

Important levels to watch for – For up-move – 4920, 5000, For down-move – 4720, 4675. For sideway – 4720, 4920.

Hope this analysis helps you in forming your own views on market. Feel free to drop your comments on the post. Let me know if you would like to see something more in the analysis.

Disclaimer These are my views on the market and I could be wrong in reading it. Please use your own judgment and make sensible trading decision based on your own analysis.

NIFTY Weekly price action analysis – 30-September-2011

This item was filled under [ Traders zone ]

Here is the Nifty weekly chart with trend lines, trend channel and swing points marked on it.

NIFTY weekly price action analysis

NIFTY weekly price action analysis

Let’s take a look at NIFTY’s weekly chart and do the analysis based on facts shown by price action-

Bullish reasons -
1) Weekly close is above previous weeks close. The week has also shown a green candle.

2) Wide range candle closing in middle.

3) Volume has been higher then previous week.

Bearish reasons -
1) Market made lower high and lower low on weekly chart. It also resulted in new lower swing high below the important level of 5200.

Interpretation and possibilities for next week -
As a trader, we have to be prepared to face anything that market throws on us. So lets see what might come in next week.
1) Nearest supply zone of 5170/5200 level worked last week and it also hold as resistance during this week too.  As anticipated last week that 5000 levels will act as new supply zone, it turned out to be true this week when price struggled to stay above 5000 and finally dropped and closed below this.

2) Possible support is at 4720 level. Any break of this, can easily take market to 4550 level on downside.

3) Volume has been fairly high during this week indicating active participation by smart money. I would like to watch it closely during next week for break or support of 4720 level. Else my view of short term accumulation by smart-money will be supported. My tracking of FII flows also giving the sign of short term bottom formation.

4) This weeks lower high bar resulted in giving us lower swing low at 5200 level. As this level is below the long term bullish trend line from March-2009 low, it confirms that the trend line is broken. In other words the Bull market that started from March-2009 low is over.  The long term direction of market is down and the deciding trend line for this is the down sloping line starting from 6300 high made in Oct-2010.

Important levels to watch for – For up-move – 5000/5170, For down-move – 4750, 4720. For sideway – 4750 to 5030.

Hope this analysis helps you in forming your own views on market. Feel free to drop your comments on the post. Let me know if you would like to see something more in the analysis.

Disclaimer These are my views on the market and I could be wrong in reading it. Please use your own judgment and make sensible trading decision based on your own analysis.

Interpreting top 10 open interest – 30-September-2011

This item was filled under [ Traders zone ]

As options open interest shows us the footprint of smart money/big players, so lets try to decipher their footprint. Here is the list of option strikes (October expiry) that have got highest open interest as of Friday’s close.

S&R levels as per OI - 30-Sept-2011

Observations –
1) 5000 and 5200 CALLs have seen highest OI in this new series indicating these levels as resistance.
2) 4700 and 4800 PUT have seen highest OI in this new series indicating these levels as good support.

Interpretation –

1)4400 PUT had seen trading in the order of 22 lacs OI. This could provide support in event of fall below 4700 level.

2) 4500 PUT do not have higher OI then 4400 or 4600 level hence this psychological level might not be of much use.

Hope this analysis helps you in forming your own views on market. Feel free to drop your comments on the post. Let me know if you would like to see something more in the analysis.

Disclaimer These are my views on the market and I could be wrong in reading it. Please use your own judgment and make sensible trading decision based on your own analysis.

NIFTY Weekly price action analysis – 23-September-2011

This item was filled under [ Traders zone ]

Here is the Nifty weekly chart with trend lines, trend channel and swing points marked on it.

NIFTY weekly price action analysis

NIFTY weekly price action analysis

Let’s take a look at NIFTY’s weekly chart and do the analysis based on facts shown by price action-

Bullish reasons -

I am struggling to find bullish reasons on chart once again on this week. Except that the volume in this bearish week are lower then previous week, which show lack of bearish strength.

Bearish reasons -

Once again we had bearish week.

1) Price broke above previous NR week, just to indicate that it was false breakout. It the resistance zone 5170 and dropped from there.

2) We have a bearish engulfing candle that has engulfed the bullish price action of last 2 weeks. It is also wide range candle, indicating strength in bearish move.

3) Volume has been low in this week. It is important to watch the price action and volume as it reaches the previous swing low point 4720.

4) I have marked Green think link on this weeks chart to project the possible downside target for this leg. Of course it will not be straight line move and we will see some intermediate bounces. Possible levels where market might support are green lines at 4700 /4550 levels.

Interpretation and possibilities for next week -
As a trader, we have to be prepared to face anything that market throws on us. So lets see what might come in next week.
1) Nearest supply zone of 5170/5200 level worked during this week and pushed the market down from here. Market found some support above 5000 which is also broken later. Now 5000 levels will act as new supply zone

2) Possible support is at 4720 level. Any break of this, can easily take market to 4550 level on downside.

3) Volume has been low during this week indicating that new supply has not yet entered the market. I would like to watch it closely during next week. Else my view of short term accumulation by smart-money will be supported. My tracking of FII flows also giving the sign of short term bottom formation.

Important levels to watch for – For up-move – 5170/5300, For down-move – 4830, 4720. For sideway – 4830 to 5170.

Hope this analysis helps you in forming your own views on market. Feel free to drop your comments on the post. Let me know if you would like to see something more in the analysis.

Disclaimer These are my views on the market and I could be wrong in reading it. Please use your own judgment and make sensible trading decision based on your own analysis.

Interpreting top 10 open interest – 23-September-2011

This item was filled under [ Traders zone ]

As options open interest shows us the footprint of smart money/big players, so lets try to decipher their footprint. Here is the list of option strikes (September expiry) that have got highest open interest as of Friday’s close.

S&R levels as per OI - 23-Sept-2011

Observations –
1) 4800 and 4900 CALLs have seen good addition in OI making them immediate resistance for current series.
2) 4600 PUT has also shown very good increase in OI making it stronger support level.
3) 4700 PUT has seen drop in OI indicating this level might not provide any support here.

Interpretation –
1) We are in the last week of this series hence change in OI could be very fast. As per the highest OI at this stage, 4600/4700/4800 are potential support levels.

2) Resistance level is currently built up at 4900 and then at 5000 level.

4) This being last week of current series, the quick look at next month’s OI indicates good build up of CALLs at 5200/5100/5000 level and PUTs at 4800/4700/4500 levels.Hope this analysis helps you in forming your own views on market. Feel free to drop your comments on the post. Let me know if you would like to see something more in the analysis.

Disclaimer These are my views on the market and I could be wrong in reading it. Please use your own judgment and make sensible trading decision based on your own analysis.

Interpreting top 10 open interest – 16-September-2011

This item was filled under [ Traders zone ]

As options open interest shows us the footprint of smart money/big players, so lets try to decipher their footprint. Here is the list of option strikes (September expiry) that have got highest open interest as of Friday’s close.

S&R levels as per OI - 16-Sept-2011

Observations –
1)  5300 CALL have shown good addition in OI making them strong resistance for current series. 5200 CALL OI has gone down, i.e. this level has weaken as resistance.
2) 4900 PUT has also shown very good increase in OI making it stronger support level.
3) 5500 CALLs have shown drop in OI indicating people are booking profit on these calls.
4) Higher volume of Open Interest in CALLs is at 5200 level and then at 5300 level. Highest level of PUTs is at 4700, 4800, 5000 level.

Interpretation –
1) As market moved up during this week, support level has shifted up which is indicated by heavy increaes in PUT OI at 4900/5000 levels.

2) Resistance level is currently built up at 5200 and then at 5400 level.

3) As market moved up, if sentiments are turning bullish then we should have seen more CALLs OI. Unfortunately, that is not the case. This is indication of lack of strength in bullish move. We have seen increase in PUT OI which is going to provide support during current series, if market falls from here.

Hope this analysis helps you in forming your own views on market. Feel free to drop your comments on the post. Let me know if you would like to see something more in the analysis.

Disclaimer These are my views on the market and I could be wrong in reading it. Please use your own judgment and make sensible trading decision based on your own analysis.

NIFTY Weekly price action analysis – 16-September-2011

This item was filled under [ Traders zone ]

Here is the Nifty weekly chart with trend lines, trend channel and swing points marked on it.

Nifty Weekly price action analysis

Nifty Weekly price action analysis

Let’s take a look at NIFTY’s weekly chart and do the analysis based on facts shown by price action-

Bullish reasons -
1) We had weekly Green bar indicating continuation of bullish move in short term.

2) Weekly volume has been very good supporting the upmove. Friday’s daily volume has been one of the highest in last 20 days.

3) Weekly close is above the psychological level of 5000.

Bearish reasons -
1) The week made Lower High and Lower Low compared to last week, indicating weakness.

2) Previous week with range of 226 points was NR7 week (narrowest range in last 7 weeks). This weeks range of 232 is also among the narrower range.  It indicates that market is still in consolidation phase,but sooner or later, we are going to see range expansion and move.

3) Price has dropped from the previous support level of 5177, which acted as resistance on daily chart. The lower high resulted in giving us Swing High point at 5177 which will act as first resistance going forward.

3) Market closed at more or less same level as previous weeks close indicating lack of strength in trend.

Interpretation and possibilities for next week -
As a trader, we have to be prepared to face anything that market throws on us. So lets see what might come in next week.

1) Nearest supply zone was around 5177/5200 level. Market needs to cross this level to show any further sign of strength. Looking at global weakness, it is going to be a challenge.

2) Any break of 5177 level, can easily take market to 5328 level on upside.

3) Volume has been high on last 2 days of the week, indicating that accumulation might be in progress. My tracking of FII flows also giving the sign of short term bottom formation.

4) On first 3 days of this week, market made daily low between 4910 /4920 range. Hence this level will act as support or trend decider in days to come.

5) I will not call it as end of bearish trend. This could very well be a bearish rally. We are still in down trend, global markets are still going down. In such situation, it is better to wait for more confirmation before we call it return of bull market.

Important levels to watch for – For up-move – 5200/5300, For down-move – 4800, 4900. For sideway – 4910 to 5150.

Hope this analysis helps you in forming your own views on market. Feel free to drop your comments on the post. Let me know if you would like to see something more in the analysis.

Disclaimer – These are my views on the market and I could be wrong in reading it. Please use your own judgment and make sensible trading decision based on your own analysis.