Derivatives is a product whose value is derived from the value of underlying assets which may be equity, commodity, currency or interest rate futures. Derivatives is a leveraged financial product which provide opportunity to trade, arbitrage and hedge to different market participants.
We have mainly NSE and BSE F&O segment and major trading is being done in NSE F&O segment with an average daily turnover of around Rs 2 million crore.
NSE F&O segment has four derivatives product like Index Future, Index Option, Stock Future and Stock option. As of now there are 173 stock future and 10 Index futures are available for trading as per their criteria to enter in F&O segment.
Derivatives are mainly used to get the advantage of high leverage with limited investment and main use is for hedging activities so mitigate the risk.
Option contracts are also available and they contribute around 75 per cent volume in total daily market volumes of F&O segment.
Options are like insurance product where for a buyer of an option, risk is limited while reward is unlimited. Option traders can get in trade as per the view to get the benefit with limited investment and risk.
Options are also important to hedge the position in any volatile market scenario to avoid the market-related risk.
Because of rising awareness and its benefit participants are more involving in option segment of the market.
Option traders can also customised different set of strategies to get the better return with limited risk.
But again remember options buyers has to bear the cost of premium and loss of time decay if market remain in a range as in that scenario option premium declines towards the expiry.
Derivatives trades can be well utilised to reduce the cost of trade by covered call strategy which provides an extra cushion to Future traders.
An important beauty of option trade is that even after not knowing the market direction one can simply play the volatile move by buying respective Calls and Puts at the time of a volatile event where direction is not clear but volatile move is expected.
Cash to future, future to cash arbitrage and carry over short position are other advantage of derivatives market.
It also provides a price discovery process as future price usually remains high because of the time value of money.
(The author is derivatives analyst, equity research at Anand Rathi Financial Services)
