SHREE GANESH INVESTMENT

C-33, Gautam Nagar, L. T. Road, Borivali(West), Mumbai-400 092.

Phones: 5682 7967, 2898 1783 Mobile 98205 72612

Understanding Derivatives
Share Market is a Platform To Make Profit by Trading in Shares or Securities.
Of course, sometimes, profit may be negative.

THE SMALL

In this article, the phrase The Small stands for people with small fund or small
holding capacity.

THE BIG

In this article, the phrase The Big stands for people with large or unlimited fund
or large holding capacity. Besides Moneyed Individuals, FIIs, Big Institutions like LIC,
UTI, MUTUAL FUNDS etc. can be regarded as THE BIG.

In order to trade, it is necessary to do a transaction.

A transaction is a pair of Buy & Sale.

In order to make transactions in Share Market, we have two segments.

One is CASH SEGMENT & the other is DERIVATIVE SEGMENT.

SEGMENTS

CASH SEGMENT DERIVATIVE SEGMENT

CASH SEGMENT

. This is the most preferred segment. This is safe one. Those who have enough
fund, should go for this segment. This segment is good for both THE SMALL & THE
BIG.
 In this segment you can buy shares within your capacity by making 100 %
payment and taking delivery. You have to wait till you get your favorable rates and then
sell the shares. You can buy back the same shares when the rates are reasonably low.

Your ownership of position remains with you unless and until you have squared
off. Such people are known as Investors. They don’t undergo frequent or day-to-day
trading. It is observed that investors earn a good percentage of profit and that also without
any tension.

POINTS TO REMEMBER

1. 1. In Cash Segment do not buy all of your required quantity at a time. Buy in
certain units. If you desire to buy 500 shares, buy 100 at a time so that you can
have fund to buy if the shares are available at lower rates.
2. 2. Similarly while selling do not sell all the shares at a time. If you want to sell
500 shares, sell in the unit of 100 shares so that you may get higher rates for the
remaining lots.
3. 3. Do not square off at a very low profit. Try to earn substantial profit. This
strategy will help you when you are about to make a substantial loss.
4. 4. Do not do the next transaction in the same item at a very narrow interval of
profit. Try to get at least 5 % gain.
5. 5. Try to accumulate a reasonable quantity of a volatile share like RELIANCE at
various downward rates. You can do profit churning in Reliance with a quantity of
say unit of 50 shares in an open ended way.

DERIVATIVE SEGMENT

This is the segment where one can do higher volume with less fund compared to
Cash Segment. There are two parts in this segment. (1) Future Trading & (2) Option
Trading

CASH SEGMENT DERIVATIVES

1. 100 % payment is to be made 1. Prefixed Margin say 20-40 % is to

for buying and similarly 100 % be paid as Deposit (known as
payment is received while margin) to meet with any risk or
selling liability due to the trade done.

2. Ownership – Ownership 2. Ownership of the position remains

remains with you unless and with you until you have squared off
until you have squared off the or till the last Thursday of the
position. Contract Month.
 3. Quantity – Any quantity of 3. One cannot buy any odd quantity
shares can be bought or sold. but has to buy or sell the Lot in
There is no compulsion prefixed size.

4. Delivery is to be given or taken. 4. There is nothing like delivery.

DERIVATIVES

FUTURE TRADING OPTION TRADING

FUTURE TRADING

Future Trading is jut like Cash Segment Trading. In Future Trading you are not to
pay 100 % payment as you have to do in Cash Segment and there is nothing like delivery.

MARGINS

In order to trade in Future, you are required to pay two types of margins.

(1) Initial Margin (2) Daily Margin. Initial Margin is to be paid initially while
taking the position. Suppose you buy One Contract of Reliance Future. At that
time say the rate is Rs. 400/-. The lot of Reliance is of 600. So the total value of
the lot will be Rs. 2,40,000/-. Suppose the Initial Margin fixed for Reliance is say
25 %. So you will have to pay Rs. 60,000/- initially as Initial Margin. The next
day the rate becomes Rs. 398/-. So book loss of Rs. 1200/- appears to be there. So
you will have to pay this difference to your broker and this amount you pay is
known as Daily Margin. Again on the next of the next day, the rate becomes Rs.
395 which means further book loss of Rs. 3 amounting to Rs. 1,800/-. You will
have to pay this as Daily Margin. Remember the margin is one kind of Deposit in
order to safeguard against any default. Similarly on the third day say the rate
becomes Rs. 403 and so your F&O account will be credited with Rs. 4,800/- as
there is a book profit of Rs. 8/- per share. In order to avoid daily Give & Take, the
client is advised to keep something more than the margin amount that might be
required. In case of continuous loss situation when you are not in position to pay
 margin, your transaction is squared off and the respective loss is debited to your
account. In Case of Profit situation you can decide when to square off the
transaction.

Future Trading is the most

Dangerous One. The people with
low funding capacity should not
even think of Future Trading.

OPTION TRADING

In option Trading you can take either of the positions viz. BUYER’S POSITION
OR SELLER’S POSITION (ALSO KNOWN AS WRITER)

GENERAL EXAMPLE IN A LAYMAN’S LANUGAGE

Let us consider an example. Say Rameshbhai & Sureshbhai are two friends, both
dealing in shares. Now Rameshbhai feels that Reliance will be trading at Rs. 500 at the
close of the month. At present it is available at Rs. 400 but Rameshbhai does not have
fund to buy the lot of 600 shares of Reliance. His friend Sureshbhai is a rich capable
person and so Rameshbhai explains Sureshbhai his feelings about Reliance. Rameshbhai
says to Sureshbhai that he(Rameshbhai) may buy Reliance from him(Sureshbhai) at the
rate of Rs. 410/- later during the month before the expiry date provided that Sureshbhai
agrees to make the arrangement. Rameshbhai also gives temptation that he will give him
non-refundable commission of Rs. 7 per share immediately in advance. Sureshbhai
agrees to take the responsibility of providing Rameshbhai 600 shares of Reliance if he
demands the shares and accepts the commission of Rs. 7/- per share from Rameshbhai.

Thus Rameshbhai succeeded in getting the right of buying 600 Shares of Reliance
at Rs. 410 and for getting the right he had to pay the not-refundable commission of Rs. 7
per share in advance.

In this example, in derivative language, Rameshbhai is the option buyer and

Sureshbhai is option-seller or option-writer. The word commission is known as premium.
The pre-decided price of Rs. 410 is known as Strike Price. The right to buy is known as
Call. Hence we can say that Rameshbhai bought a Reliance Call with the strike price of
Rs. 410 at a premium of Rs. 7/-. Now the Reliance will cost Rs. 410+7=417 to
Rameshbhai. When the rates of Reliance is more than Rs. 417, it will be a time for
Rameshbhai to exercise his right at a proper time he likes.

BUYER
Buyer of the option has a chance of limited loss in an unfavorable situation and unlimited
profit in the favorable situation. Generally those with small fund should be buyer of the
option so that he occurs a pre-decided or pre-imagined loss or limited loss in an odd
situation but can have unlimited profit in a favorable situation.

SELLER (WRITER)

Seller of the option has a chance of limited profit in a favorable situation and unlimited
loss in an unfavorable situation. Generally those, with large stock with them purchased at
a very low rate and with good funding arrangement, become Seller of the option. If one
does not have fund arrangement, one should not be seller or writer.

OPTION BUYER OPTION SELLER/WRITER

1. He has right of buying or selling. 1. He has no right.

2. He has no obligation.
3. He has to pay premium.
4. Chance of Limited Loss.
5. Chance of Unlimited Profit.
2. He has obligation (responsibility)
to provide the buyer with the
position.
3. He receives premium.
4. Chance of Unlimited Loss.
5. Chance of Limited Profit.

OPTION

CALL PUT
CALL
Call means a right to buy. If you expect TEJI, you should buy a Call.

PUT
Put means a right to sell. If you expect MANDI, you should buy a Put.

PREMIUM

Premium is the amount payable by an Option-Buyer. The rates of premium are

different for different strike price.

STRIKE PRICE

Strike Price is the price at which the option-buyer desires to buy the shares.

TOP 9 TRADING STRATEGIES IN DERIVATIVES

1. BUY CALL

When market is down, buy just out of money Call.

2. BUY PUT

When market is Up and correction is due, buy Put.

3. BUY FUTURE AND SELL CALL

When you are bullish but at the same time you want to cover any downward.

4. BULL SPREAD

When market is in narrow range, buy “IN THE MONEY” CALL and sell “OUT
OF MONEY” CALL.

5. CALENDER SPREAD

When you want to take TEJI POSITION for the next month, Sell Current Month
CALL and Buy Next month Call.

6. STRANGLE

When you are not sure in which direction the market will go, Buy CALL & PUT
of the same strike price.
7. STRADDLE

When results are expected and you do not know in which direction the stock will
move, Buy “OUT OF MONEY” Call and “OUT OF MONEY” Put.

8. STOCK INSURANCE

Buy Future and Buy PUT to cover down side.

9. SELL CALL & PUT

In the last days of the Contract Period, Sell naked “OUT OF MONEY” Call &
Put.
 Examples of Some Complex Transactions – TEST YOURSELF

1. Mukesh expects Teji from now. He buys a Realince Future @ Rs. 439 and sells
Reliance 450 Call (with 450 strike price) at the premium of Rs. 9. At the close of
contract period, Reliance was Rs. 462. Could Mukesh make profit? If yes, how
much ? (Lot Size = 600)

2. Popatlal expects Teji ahead. He buys HLL 180 Call at premium of Rs. 12 and sells
190 Call at the premium of Rs. 8. At the time of settlement end, HLL was trading
at 196. Explain Popatlal’s position. (Lot Size = 2000)

3. Manubhai expects Teji ahead. He buys a Realince Future @ Rs. 437 and sells
Reliance 450 Call at the premium of Rs. 6. At the close of contract period,
Reliance was Rs. 435. Could Manubhai make profit? If yes, how much ? (Lot
Size = 600)

4. Lalu expects Teji ahead. He buys HLL 180 Call at premium of Rs. 11 and sells
190 Call at the premium of Rs. 9. At the time of settlement end, HLL was trading
at 191. Explain Lalu’s position. (Lot Size = 2000)

5. Dhondiba bought a Reliance 450 Call at Rs. 12 and sold Reliance Future @ Rs.
465. What would be his position when Reliance was quoting at Rs. 445/- ? (Lot
Size = 600)

6. Dhakkan sold HLL 180 Call at Rs. 11 and bought HLL 190 call at Rs. 6. What
will be his position when HLL is trading at Rs. 189 ? (Lot Size = 2000)

7. Makaiwala sold HLL 180 call at Rs. 6 and HLL 180 PUT at Rs. 7 ? What will he
occur when HLL is trading at Rs. 175 ? (Lot Size = 2000)

8. Bhikhamchand sold HLL 190 call at Rs. 5 and HLL 190 PUT at Rs. 6 ? What will
be his profit range of rates of HLL? When will he start making loss? (Lot Size =
2000)

9. Deepak sells Infosys 4500 call @ Rs. 75 and buys Infosys future at Rs. 4400.
What will be his position when the rate of Infosys suddenly falls to Rs. 3800. (Lot
Size = 50)
10. Manoj buys Infosys Future at Rs. 4600 and buys Infosys 4500 PUT at Rs. 50.
What will be his position when the rate is Rs. 3850 ? Lot quantity for Infosys is
100. (Lot Size = 50)

11. Pradeep bought HLL 180 CALL at Rs. 12 and sold HLL 190 PUT for Rs. 17, both
at a time. What will be his position when HLL is trading at Rs. 185 ? (Lot Size =
2000)
12. Manali sold HLL 180 PUT at Rs. 6/-. She also sold HLL 190 CALL at Rs. 3/-.
What will be her position when HLL is about to close at Rs. 184? (Lot Size =
2000)

13. Nitin bought INFOSYS 4400 CALL at Rs. 90/-. He sold INFOSYS 4600 CALL
at Rs. 60/-. What will be his position when INFOSYS is about to close at Rs.
4685/- ? (Lot Size = 50)

14. Bhavesh bought Infosys 4400 CALL at Rs. 120/- and Infosys 4400 PUT at Rs.
105. What will be his profit zone ? (Lot Size = 50)

15. Rachana sold HLL 180 CALL at Rs. 12 and HLL 180 PUT at Rs. 10/-. What will
be her profit zone? (Lot Size = 2000)

16. Kishor bought Arvind Mills Future at Rs. 44 and sold Arvind Mills 50 Call at Rs.
3/-. How much profit or loss will he occur when the closing rate is Rs. 38 ? (Lot
Size = 4300)

17. Bharat bought SATYAM FUTURE @ 286.00. He sold SATYAM 300 CALL at
the premium of Rs. 5/-. He also bought SATYAM 280 PUT at the premium of Rs.
4/-. What will be his position when SATYAM closes at Rs. 292? (Lot Size =
1200)

18. Ravindra sold INFOSYS 5000 PUT at premium of Rs. 85/-. He sold INFOSYS
FUTURE at Rs. 5300/-. What will be his position if INFOSYS finally closes at
Rs. 5050/-? (Lot Size = 50)

19. Ashok bought HLL 130 CALL at premium of Rs. 4.00 and HLL 130 PUT at
premium of Rs. 6.00. What will be final effect on him when HLL closes at Rs.
119/-? (Lot Size = 2000)

20. Vijay sold ACC FUTURE at Rs. 238/-. He also sold ACC 230 PUT at the
premium of Rs. 8.00. What will be final effect on him when ACC closes at Rs.
219/-? (Lot Size = 1500)

21. What have I done, TEJI or MANDI, in the following situations:

1. 1. When I bought a CALL?

2. 2. When I have sold a CALL?
3. 3. When I have bought a PUT?
4. 4. When I have bought both CALL & PUT?
5. 5. When I have sold both CALL & PUT?
6. 6. When I have sold a PUT & bought a CALL?
7. 7. When I have bought a PUT & sold a CALL?
8. 8. When I have sold a PUT?
 Answers of Question-21.

1. TEJI 2. MANDI 3. MANDI 4. TEJI & MANDI

5. MANDI & TEJI 6. TEJI & TEJI
7. MANDI & MANDI 8. TEJI

Note: Lot Sizes of Contracts given at end.

Note: “+” means incoming value and “-” means outgoing value.

ANSWERS OF COMPLEX EXAMPLES

Sr Details Value Qty Rate

1 Initially

Buying Reliance Future -263400.00 600 -439.00

Selling Reliance 450 Call 5400.00 600 9.00

Finally -

Squaring off Reliance Future 277200.00 600 462.00

Loss Due 450 Call -7200.00 600 -12.00

Profit 12000.00

2 Initially

Buying HLL 180 Call -24000.00 2000 -12.00

Selling HLL 190 Call 16000.00 2000 8.00

Finally -

Due to Buying HLL 180 Call 32000.00 2000 16.00

Due to Selling HLL 190 Call -12000.00 2000 -6.00

Profit 12000.00

3 Initially

Buying Reliance Future -262200.00 600 -437.00

Selling Reliance 450 Call 3600.00 600 6.00

Finally -

Squaring off Reliance Future 261000.00 600 435.00

Due to Expiry of 450 Call At 435 - 600 0.00

Profit 2400.00
4 Initially

Buying HLL 180 Call -22000.00 2000 -11.00

Selling HLL 190 Call 18000.00 2000 9.00

Finally -

Due to Buying HLL 180 Call 22000.00 2000 11.00

Due to Selling HLL 190 Call -2000.00 2000 -1.00

Profit 16000.00

5 Initially

Buying Reliance 450 Call -7200.00 600 -12.00

Selling Reliance Future 279000.00 600 465.00

Finally -

Due to Expiry of 450 Call At 445 - 600 0.00

Squaring off Reliance Future -267000.00 600 -445.00

Profit 4800.00

6 Initially

Selling HLL 180 Call 22000.00 2000 11.00

Buying HLL 190 Call -12000.00 2000 -6.00

Finally -

Due to Selling HLL 180 Call -18000.00 2000 -9.00

Due to Expiry of 190 Call At 189 - 2000 0.00

Loss -8000.00

7 Initially

Selling HLL 180 Call 12000.00 2000 6.00

Selling HLL 190 Put 14000.00 2000 7.00

Finally -
 Due to Expiry of 180 Call At 175 - 2000 0.00

Due to Selling HLL 190 Put -30000.00 2000 -15.00

Loss -4000.00

8 Initially

Selling HLL 190 Call 10000.00 2000 5.00

Selling HLL 190 Put 12000.00 2000 6.00

Finally

Break Even for Call is 195 and for Put is 184. He will make profit when

HLL remains between 184 and 195. Profit Range : 184 to 195

9 Initially

Selling INFOSYS 4500 Call 3750.00 50 75.00

Buying INFOSYS Future @ 4400.00 -220000.00 50 -4400.00

Finally

Due to Expiry of 4500 Call At 3850 - 50 0.00

Squaring Off INFOSYS Future 190000.00 50 3800.00

Loss -26250.00

10 Initially

Buying INFOSYS Future @ 4600.00 -230000.00 50 -4600.00

Buying INFOSYS 4500 Put @ 50 -2500.00 50 -50.00

Finally

Squaring Off INFOSYS Future 192500.00 50 3850.00

Due to INFOSYS 4500 Put 32500.00 50 650.00

Loss -7500.00

11 Initially

Buying HLL 180 Call -24000.00 2000 -12.00

 Selling HLL 190 Put 34000.00 2000 17.00

Finally -

Due to Buying HLL 180 Call 10000.00 2000 5.00

Due to Selling HLL 190 Put -10000.00 2000 -5.00

Profit 10000.00

12 Initially

Selling HLL 180 Put 12000.00 2000 6.00

Selling HLL 190 Call 6000.00 2000 3.00

Finally -

HLL 180 Put Expired at 184 - 2000 0.00

HLL 190 Call Expired at 184 - 2000 0.00

Profit 18000.00

13 Initially

Buying INFOSYS 4400 Call -4500.00 50 -90.00

Selling INFOSYS 4600 Call 3000.00 50 60.00

Finally

Due to INFOSYS 4400 Call 14250.00 50 285.00

Due to INFOSYS 4600 Call -4250.00 50 -85.00

Profit 8500.00

14 Initially

Buying INFOSYS 4400 Call -6000.00 50 -120.00

Buying INFOSYS 4400 Put -5250.00 50 -105.00

Finally

Due to INFOSYS 4400 Call 14250.00 50 285.00

Due to INFOSYS 4400 Put -4250.00 50 -85.00

 Break Even for Call is 4280 and for Put is 4505. He will make profit when

INFOSYS remains between 4280 and 4505. Profit Range : 4280 to 4505

15 Initially

Selling HLL 180 Call 24000.00 2000 12.00

Selling HLL 180 Put 20000.00 2000 10.00

Finally

Break Even for Call is 192 and for Put is 170. She will make profit when

HLL remains between 170 and 192. Profit Range : 170 to 192

16 Initially

Buying ARVIND Future @ 44 -189200.00 4300 -44.00

Selling ARVIND 50 Call 12900.00 4300 3.00

Finally

Due to ARVIND Future at 38 163400.00 4300 38.00

ARVIND 50 Call Expired at 38 - 4300 0.00

Loss -12900.00

17 Initially

Buying SATYAM Future @ 286 -343200.00 1200 -286.00

Selling SATYAM 300 Call 6000.00 1200 5.00

Buying SATYAM 280 PUT -4800.00 1200 -4.00

Finally

Due to SATYAM Future at close 350400.00 1200 292.00

SATYAM 300 CALL expired at 292 - 1200 0.00

SATYAM 280 PUT expired at 292 - 1200 0.00

Profit 8400.00

18 Initially
 Selling INFOSYS 5000 PUT 4250.00 50 85.00

Selling INFOSYS Future 265000.00 50 5300.00

Finally

INFOSYS 5000 PUT Expired at 5050 - 50 0.00

Buying INFOSYS Future -252500.00 50 -5050.00

Profit 16750.00

19 Initially

Buying HLL 130 Call -8000.00 2000 -4.00

Buying HLL 130 Put -12000.00 2000 -6.00

Finally -

HLL 130 Call expired at 119 - 2000 0.00

Due to Buying HLL 130 Put 22000.00 2000 11.00

Profit 2000.00

20 Initially

Selling ACC Future 357000.00 1500 238.00

Selling ACC 230 PUT 12000.00 1500 8.00

Finally

Buying ACC Future -328500.00 1500 -219.00

Due to ACC 230 PUT -16500.00 1500 -11.00

Profit 24000.00
 Permitted Lot Sizes of Contracts As On 12th June, 2004.

No. Underlying Symbol Market Lot

1 S&P CNX Nifty NIFTY 200

2 CNX IT CNXIT 100
Derivatives on Individual Securities
1 Associated Cement Co. Ltd. ACC 1500
2 Andhra Bank ANDHRABANK 4600
3 Arvind Mills Ltd. ARVINDMILL 4300
4 Bajaj Auto Ltd. BAJAJAUTO 400
5 Bank of Baroda BANKBARODA 1400
6 Bank of India BANKINDIA 3800
7 Bharat Electronics Ltd. BEL 550
8 Bharat Heavy Electricals Ltd. BHEL 600
9 Bharat Petroleum Corporation Ltd. BPCL 550
10 Canara Bank CANBK 1600
11 Cipla Ltd. CIPLA 1000
12 Dr. Reddy's Laboratories Ltd. DRREDDY 200
13 GAIL (India) Ltd. GAIL 1500
14 Grasim Industries Ltd. GRASIM 350
15 Gujarat Ambuja Cement Ltd. GUJAMBCEM 1100
16 HCL Technologies Ltd. HCLTECH 1300
17 Housing Development Finance Corporation Ltd. HDFC 600
18 HDFC Bank Ltd. HDFCBANK 800
19 Hero Honda Motors Ltd. HEROHONDA 400
20 Hindalco Industries Ltd. HINDALC0 300
21 Hindustan Lever Ltd. HINDLEVER 2000
22 Hindustan Petroleum Corporation Ltd. HINDPETRO 650
23 ICICI Bank Ltd. ICICIBANK 1400
24 I-FLEX Solutions Ltd. I-FLEX 300
25 Infosys Technologies Ltd. INFOSYSTCH 50
26 Indian Petrochemicals Corpn. Ltd. IPCL 1100
27 Indian Oil Corporation Ltd. IOC 600
28 ITC Ltd. ITC 300
29 Mahindra & Mahindra Ltd. M&M 625
30 Maruti Udyog Ltd. MARUTI 400
31 Mastek Ltd. MASTEK 1600
32 Mahanagar Telephone Nigam Ltd. MTNL 1600
33 National Aluminium Co. Ltd. NATIONALUM 1150
34 NIIT Ltd. NIIT 1500
35 Oil & Natural Gas Corp. Ltd. ONGC 300
36 Oriental Bank of Commerce ORIENTBANK 1200
37 Punjab National Bank PNB 1200
38 Polaris Software Lab Ltd. POLARIS 1400
39 Ranbaxy Laboratories Ltd. RANBAXY 400
40 Reliance Energy Ltd. REL 550
41 Reliance Industries Ltd. RELIANCE 600
42 Satyam Computer Services Ltd. SATYAMCOMP 1200
43 State Bank of India SBIN 500
44 Shipping Corporation of India Ltd. SCI 1600
45 Syndicate Bank SYNDIBANK 7600
46 Tata Power Co. Ltd. TATAPOWER 800
47 Tata Tea Ltd. TATATEA 550
48 Tata Motors Ltd. TATAMOTORS 825
49 Tata Iron and Steel Co. Ltd. TISCO 900
50 Union Bank of India UNIONBANK 4200
51 Wipro Ltd. WIPRO 200