Hedging in Option trading

One of the biggest concern for option writers (people who sell options) is how to hedge their positions. As we all know option selling means there is potential of limited profit but potential for unlimited loss is also there.. It becomes all the more important to hedge the positions as nobody wants to take risk of huge losses.

So what can be various possible ways of hedging the positions. Let us say we are talking about selling of Nifty calls or Banknifty calls. If we are selling a call,  there can be three possible ways  of hedging.

1. Buy Nifty or Banknifty Future
2. Buy another Nifty/Banknifty call
3. Sell Nifty / Banknifty Put

In case of A , as we are buying equal number of futures, obviously its a complete hedge for the sold call. We need not be afraid of any upward movement at all. But now the question is , what will happen if market or index starts moving downside. Our sold call will give profit but purchased future will give loss. Both will nullify each others impact upto certain point and after that if index falls further, it will be an unlimited loss in Long Future. So, here upside is fully hedged,but downside is partially hedged.

In case of B, when we buy another call, it is again well hedged on downside as well on upside. But in case of upside, there will be a limited loss which will be equivalent to difference in strike prices of two calls minus net credit received. But still it will be a very limited loss. It will also reduce the overall profit , but the overall position becomes limited loss and limited profit position.

In case of C , when you try to hedge sold call with sold put, this kind of position has dual benefit but dual risk also. If market remains within a particular range, you will get profit from both the sides , but you can also get huge loss on any of the side if market moves sharply to any side. So partial hedging is always there but then you require advance adjustment skills to take care of such  a hedging technique. If you know that, it can be extremely rewarding strategy.

We are educating investors in various hedging techniques. Visit our websites for more details.

www.thebanknifty.com

www.theoptionschool.in

#option hedging #strategies #futures #trading options

Is it possible to make profits , without predicting the direction of Market ?

Most common belief is that if you want to make money in stock markets, you must be able to predict the direction of market. So ,if you predict that markets will go up, you buy and then sell at higher price when it has gone up. Very Simple Logic.

But markets are far far away from something as simple as that. 

Logic is correct but how do you predict where the market is going ?

Up ? Down ? Sideways ? 

There are huge number of softwares/ technical analysts claiming to predict the direction and correctly doing it almost 50 % of times. 

But what about 50 % of times when they go wrong ? 

Then you use STOP LOSS. 

This is a very common way of trading in the markets . 

But let me ask -

Do you require a special software to be wrong 50% of times ?

Anybody can do it anytime. Also , mind it - Stop Loss is a good tool but ultimately it is also a Loss only.

So , what is the way out ?

Most of you will be very sceptical if I say that you can make profits in stock markets without predicting the direction of the market ?  Because we are used to think in a particular way and that way is predict and take position and take stop loss.

Most of you will again have huge doubts in your mind if I say that you do not require stop losses to protect your positions. So you don't loose money through stop losses.

I am talking about strategic hedged positional trading.

This is NON-DIRECTIONAL trading. Non - directional trading means, we are neither bullish , nor bearish about the market. But if we are Non-directional, that doesn't mean , markets are also non-directional. Markets will definitely make their moves . Nifty , Banknifty will keep on moving up and down. But we will not get ourselves stuck in a process of predicting  the direction of the market. We know markets will move and accordingly we will set up the trading strategy and do adjustments as and when required. No software, No market prediction, No stop loss and No intra-day trading. 

For doing this, we must understand basic strategies in futures and options, need to have a proper trading plan, proper adjustment plan and keep our positions hedged through usage of Greeks. Ok, its not as complex as it sounds and yes , making money can never be as simple as buy on dips and sell on highs! Its more of a wishful thinking.

Pradeep Singla

www.theoptionschool.in

(We conduct options trading workshops in following cities of India -  Bangalore,Hyderabad , Chennai, Mumbai, Delhi and Kolkata.  Online workshop is also available)

Profits - Expectations vs achievements in Stock Markets

Received a call , " What is the monthly profit I can make by using strategies in futures & options ? "

"4  to 5 %  is doable. " we replied.

"Oh , its not attractive at all. I am looking for something like 25 to 30 % per month. "

Received Call 2 - " What is the monthly profit I can make by using strategies in futures & options ? "

"4  to 5 %  " we replied.

" Oh ,great. Even if  I get 2 to 3 % per month, that would be really great. "

SAME question , SAME answer , DIFFERENT reactions.

Why do we loose money in stock markets ?

Number one reason for this is highly unrealistic expectations. New people come to stock markets with  expectations which will shake  even a gambler. No logic, No practical experience. 

No doubt , they get lured by fraudulent operators in market space.

What should be a real ,  rational expectation ?

You analyse any business. Go through quarterly results of best of the companies. You will get your answers. Even best of the companies do not have more than 7% to 8% earnings in a quarter. And see the kind of infrastructure and manpower they have to deploy,  to generate these earnings. And risk is equally high. 

So if with so much of collaborative effort, these huge organisations are able to produce these kind of returns, how can we expect extraordinary , abnormal returns from an alternate business ( if you treat stock market trading as business) ?

Yes , anybody trading or planning to start trading in markets , must first rationalise his/ her expectations. With gambling mindset, you may get one or two good hits but misses will be much more in number. But if you come with a business mindset, with rationalised expectations , you know you are already ahead of at least 90% of retail traders in the market.

Trading in stock markets is also a mind game and market makers know this fact,  better than anybody else. They are fully aware of the fears and greeds of a small investor and hence this knowledge is very well used to take money out of investor's pocket. 

So , first step to avoid these losses is to make realistic expectations from the market . Once expectations are realistic, achievements will be much more closer. And we all know , when achievements meet expectations , there is no place for frustration.

Pradeep Singla

www.theoptionschool.in

(We conduct options trading workshops in following cities of India -  Bangalore,Hyderabad , Chennai, Mumbai, Delhi and Kolkata.  Online workshop is also available).

Monthly returns as well as long term returns

Every now and then we get this input that if you stay in stock markets for sufficiently long period, you will surly get good returns. But what is a sufficiently long period ? 2 years , 5 years , 15 years.

Anybody is bound to loose patience if the investments are not resulting into any kind of positive returns for months & years.

On the other hand, my expenses are on monthly basis. I need to pay my rent every month , need to buy groceries every month , need to pay school fee every month , need to pay my EMIs every month.

In such  a scenario, how will my investments in stock markets help me in my day to day living ?

If my objective is long term returns only , Should I invest only that much of money which I save after paying all the bills? In this case also, I don't know whether these investments will really support me at the time of need or not. If I want to en-cash them after 2 years, what are the chances that they will be giving me positive returns. So, may be I am better off with a safe bank deposit in such  a scenario.

But , what if I want to take benefit of higher returns in stock markets ?

There must be a way , wherein my investments can capture long term benefits as well as pay me something on monthly basis also .( You do not know which company's will survive 15 years from now).  Is this possible ?

Yes, this is possible. You can set up a trade wherein you are taking long term benefits of markets with short term gains. Short term gains are like small rent which you are capturing from the long term investment you have made for capital gains. So , even if in long term you are not getting huge returns, the overall returns look very attractive with small small short term monthly returns you have already pocketed. Additionally , these monthly returns are supporting me in my day to day living also.

Achieving this balance of monthly returns vis a vis long term returns is a sure shot way of creating wealth through stock markets. And let me tell you, its not rocket science. It just requires proper understanding of tools available in the markets such as stocks, index , futures & options. We need to combine our trades judiciously in these segments to achieve these goals.

Pradeep Singla

www.theoptionschool.in

(We conduct options trading workshops in Bangalore,Hyderabad , Chennai, Mumbai, Delhi and Kolkata)

Why to trade in stock markets ? part 2

As we have discussed in our previous post , as a smart investor, you must trade in stock markets to beat inflation and taxes.

Question is how to trade , what are the tools which can guarantee success ?

We have two segments in equity markets.

a. CASH SEGMENT

b. DERIVATIVES SEGMENT

Traditionally , cash segment was traded wherein you can buy shares and sell as and when you want. If you have paid the whole amount , you can hold the position for whatever period you want. But if you want to hold only for intra-day, you need to pay only margin money and hence you can leverage your investments. 

Here the problem is that even if you have funds available with you, you can take only buying position. This means you will make profits if and only if the stock goes up from the price at which you have purchased it. But if it falls, you have to take losses.So ,there is only one way i.e. the stock should go up only. Also, if you want to hold position for few days or few weeks, you need 100% capital. So no leverage on your funds is possible.

Solution to these issues is derivatives segment.

Here , you get huge leverage of funds , you can hold your position for whatever period you want , you can sell (without buying) and square it off later means you can make money in falling stocks / markets also.

There are two instruments available in Derivatives Segment.

1. Futures 

2. Options

They are traded in fixed lot sizes and their multiples.

A proper understanding ensures you do not loose your capital the way it is possible in cash segment.

We will talk about futures & Options in our next post.

Pradeep Singla

www.theoptionschool.in

(We conduct options trading workshops in Bangalore,Hyderabad , Chennai, Mumbai, Delhi and Kolkata)

Why to invest in stock markets at all?

Many of my friends always ask - Why should we invest in stock markets at all ? You do not have any control on how things work and more often than not , you loose money , so we are better off with bank fixed deposit only.

Yes, Agreed that stock market is not an easy place to make money. But then , Nothing comes easily. Do you think doctor's job is easy ? Do you think Engineers's job is easy ?

We study for years. Spend lots of energy, money and time on our studies and land a job. And yes, No job is less than 12 hours a day. What after that ? Insecurities ! Boss ! Work - life Balance ! KRAs!

When it comes to stock markets , we say 

- I do not want to spend time
- I don't have much money to invest.
- I do not want to learn as nobody knows anything.
- I have never attended any training, but follow my neighbour's advice.
- I do not have patience.

BUT

I want extraordinary results.

HOW IS THIS POSSIBLE ?

Stock markets are no more part timers space.

You are happy with a bank fixed deposit which doesn't give you returns more than inflation. Plus you also pay taxes on that. In real sense, value of your money is depleting.

So , what to do. INVEST WISELY.

Investing in stock markets only can give you returns which will beat inflation plus taxes and in real sense , your money will make something for you. 

So, its not a matter of choice, but for any intelligent person with some financial acumen, its a compulsion.

Now , the question is not whether I should invest in stock markets but the question is how I should invest in stock markets. 
-What are the tools required ? 
-What are the instruments i should use ? 
-What kind of knowledge is required ? 
-What other inputs are required ?


Ok , we will talk about these details next time! 

Next blog :- Why to invest in stock markets at all ? - part 2


Pradeep Singla

www.theoptionschool.in


(We conduct options trading workshops in Bangalore,Hyderabad , Chennai, Mumbai, Delhi and Kolkata)