In this article, we will discuss
The BSE Sensex is one of the most popular and widely tracked stock market indices in India. It represents the performance of 30 large and well-established companies listed on the Bombay Stock Exchange (BSE). The Sensex is also a benchmark for the Indian economy and reflects the sentiments of the investors.
But what if you want to trade on the movements of the Sensex without actually buying or selling the stocks that make up the index? This is where the BSE Futures and Options (FnO) come in handy. FnO are derivative contracts that derive their value from the underlying asset, which in this case is the Sensex. By trading in FnO, you can speculate on the future direction of the Sensex and profit from its fluctuations.
What are BSE Futures and Options?
Futures are contracts that oblige the buyer and seller to exchange the underlying asset at a predetermined price and date in the future. For example, if you buy a Sensex futures contract for December 2023 at 75,000, you are agreeing to buy the Sensex at 75,000 on the expiry date, regardless of the actual market price at that time. Similarly, if you sell a Sensex futures contract for December 2023 at 75,000, you are agreeing to sell the Sensex at 75,000 on the expiry date, regardless of the actual market price at that time.
Options are contracts that give the buyer the right, but not the obligation, to buy or sell the underlying asset at a predetermined price and date in the future. For example, if you buy a Sensex call option for December 2023 at 75,000, you have the right to buy the Sensex at 75,000 on the expiry date, if you choose to exercise your option. Similarly, if you buy a Sensex put option for December 2023 at 75,000, you have the right to sell the Sensex at 75,000 on the expiry date, if you choose to exercise your option.
Why Trade in FnO?
There are many benefits of trading in FnO, such as:
Leverage:
FnO allows you to trade with a small amount of capital and control a large exposure to the Sensex. For example, if you buy one Sensex futures contract for December 2023 at 75,000, you only need to pay a margin of around 10% of the contract value, which is 7,500. However, you can gain or lose from the full value of the contract, which is 75,000 x 10 = 7,50,000. This means you can amplify your returns or losses by using leverage.
Hedging:
FnO allows you to protect your portfolio from adverse market movements by taking an opposite position in the derivatives market. For instance, to hedge a long position in stock X, you can short the same stock in futures or buy a put option. Conversely, to hedge a short position in stock Y, you can buy the same stock in equity or purchase a call option. This helps offset potential losses in the spot market with profits in the futures or options market based on market movements.
Arbitrage:
FnO allow you to exploit the price differences between the spot market and the derivatives market by taking simultaneous positions in both markets. For example, if you notice that the Sensex futures contract for December 2023 is trading at 76,000, while the Sensex spot price is 75,000, you can buy all 30 stocks in the same weight as in the Sensex in the spot market and sell the Sensex futures contract in the derivatives market. This way, you can lock in a risk-free profit of 1,000 per contract, irrespective of the market movements.
How to Trade in BSE FnO?
To trade in FnO, you need to have a trading account with a broker who is registered with the BSE. You also need to have sufficient funds in your account to pay the margins and the brokerage fees. You can use various online platforms and tools to access the FnO market and execute your trades. You can also use various strategies and indicators to analyze the market trends and signals and make informed trading decisions.
Some of the factors that affect the price of the FnO contracts are:
The price of the underlying asset:
The price of the Sensex is the most important factor that determines the price of the Sensex FnO contracts. Generally, the price of the futures contract is higher than the spot price, due to the cost of carry, which is the interest and storage cost (Generally in case of physically deliverable commodity derivatives) of holding the underlying asset until the expiry date. The price of the options contract is influenced by the intrinsic value, which is the difference between the spot price and the strike price, and the time value, which is the premium for the remaining time until the expiry date.
The volatility of the underlying asset:
The volatility of the Sensex is the measure of the uncertainty and risk associated with the price movements of the index. Generally, the higher the volatility, the higher the price of the FnO contracts, as they reflect the higher probability of large price fluctuations. The volatility of the Sensex can be estimated by using various indicators, such as the historical volatility, the implied volatility, and the volatility index (VIX).
The interest rate:
The interest rate is the cost of borrowing or lending money in the market. Generally, the higher the interest rate, the higher the price of the futures contract, as it increases the cost of carry. The higher the interest rate, the lower the price of the options contract, as it reduces the present value of the future cash flows.
The dividend:
The dividend is the periodic payment made by the companies to their shareholders. Generally, the higher the dividend, the lower the price of the futures contract, as it reduces the cost of carry. The higher the dividend, the higher the price of the call option and the lower the price of the put option, as it increases the attractiveness of owning the underlying asset.
Conclusion
Trading in the BSE Futures and Options can be a rewarding and exciting way to participate in the Indian stock market. However, it also involves a high degree of risk and complexity, and requires a lot of knowledge, skill, and discipline. Therefore, before you start trading in FnO, you should do your own research, understand the market dynamics, and devise a suitable trading plan and risk management strategy. You should also consult a professional financial advisor if you have any doubts or queries.
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