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If you’re looking for a way to make some money, then you should learn about the share market.
This article will give you an overview of what is FNO (future and options) in share market. Share markets can be risky but they can also lead to financial freedom if done correctly.
FNO can be confusing but this article will help you understand how it works with some simple explanations of key terms and concepts.
What is FNO in share market:
FNO stands for Future and Options. Future and options are derivatives, which means that their prices depend upon or derive from other underlying assets. One can also say that Future and Option are nothing but derivatives of shares.
Future and Options are based on Share price movements. It can be industries related stock like cement or pharma industry etc.
Note: Fno is useful for traders who want to use volatility, liquidity and margin in one trade, but it is risky for the traders who don't understand this product well.
FNO (futures and options) market is a zero-sum game in which every loss must be matched by the gains of another trader on the other side of the trade.
Fno is also used for hedging purposes, if you have any position in share market then it can be also used to protect from losses because when share prices go down or volatility comes up in share market then Fno will help to protect your investment.
In NSE, (National Stock Exchange) F&O list contains 160 stocks and 3 Indices (Nifty, BankNifty and Nifty Financial).
Future and Options are regulated by SEBI (Securities and Exchange Board of India).
What are Futures in Share Market?
Futures are the financial instruments that represent a contract between two parties to buy/sell an asset or instrument at an agreed price for delivery in the future.
Buying and selling of futures contracts are done via a futures exchange such as National Stock Exchange (NSE), Bombay Stock Exchange (BSE) and Multi Commodity Exchange (MCX).
All futures contracts have expiration dates. The price of a futures contract is determined by supply and demand at the time it is traded.
Note: Futures are mainly used by speculators for making money out of temporary changes in the prices of stocks and other assets. It is not meant for long term investment but only for making quick money.
Here are some of the uses of Futures contracts:
- Futures contract is used to hedge a position in the cash market or to speculate on price movements for commodities, currencies and other instruments traded in financial markets.
- Financial futures contracts are a type of forward contract. They have a date and time that they will end called the “expiry”. When you trade, you know when to sell the contract.
- Futures contracts are usually purchased by individuals who intend to speculate on the price of an asset (stock, commodity, etc.).
- Futures contract is to help the buyer and seller manage their exposure in the market by control their risk and cost of holding an asset over time.
When you buy futures, it is possible to either make or lose money. You may lose some money when markets are bearish or neutral. On the other hand, you can make some money when markets are bullish.
You must also remember that futures markets are not suitable for all investors since it is a highly leveraged market.
Note: Futures are suitable for professional traders and speculators since they do not require heavy capital to be invested but it requires the knowledge of fundamentals of trading, market analysis, and risk management to trade profitably in futures markets.
You should be aware that trading futures is a risky business since prices can change dramatically even when the underlying factors stay the same and sometimes movements are influenced by simple rumours.
If you do not have enough money to buy or sell 1000 shares of a stock, then you should not trade futures in that particular asset but choose another type of investment.
Note: When an investor uses futures, it is referred to as trading in futures.
How to trade futures in India?
You can trade futures through a broker in the stock market. You can trade futures in Index like Nifty and Bank Nifty or in Stocks.
If you are a retail investor there are brokers like Zerodha, Upstox, IIFL etc. which can provide the facility to trade on futures platforms.
Example: If you want to trade Nifty futures :
STEP 1: Login into your broker’s website or app (I am using Zerodha)
STEP 2: Search for Nifty Futures as shown below and select the monthly Contract which you want to Buy or Sell.
STEP3: Now you can Buy or sell each lot of Nifty.
One need to Buy a Minimum 1 lot of Nifty Futures which has 50 Quantities (Previously Nifty 1 lot have 75 quantities) and the margin will be required 1.05 lakh approx.
The Same can be done to Buy or Sell stocks futures.
Advantages of Future contracts in share market:
1. Liquidity: The biggest advantage of a futures contract is liquidity because it helps the investors to use it as a hedge against fluctuations in share market and also makes them easy to sell in future.
2. Speculation: If the investors are well informed about future events which may affect the share prices, they take a position on future contracts in accordance with their predictions and can secure profits if they guess correctly. So it is also known as speculation market and helps people with strong analytical skills to make money from the different price trends in share market.
3. Speculative strategies: The investors can use futures contracts in share market for various speculative purposes such as hedging, arbitrage, speculation, to name a few.
Dis-advantages of Future contracts in share market are as follows :
1. Higher price volatility
2. Future contract trading requires a lot of money.
3. Risk of loss.
What are Options in Share market?
The Share Market offers two ways in which people can trade in shares, the first is through buying and selling the stock itself. In this way, if all goes well the value of your investment will increase with time as the company becomes more successful.
The second way of trading in the Share Market is through ‘options’, which provide an alternative investment that does not involve ownership of a specific company.
They give you opportunities to make potentially large amounts of money, but only if the stocks and shares market go in your favour.
“An option is a financial contract between two parties, the buyer and seller, that gives the owner an option to buy or sell an underlying asset at pre-determined prices within a specified time frame.”Definition
Note: The price of an option is based on what are called "premiums". In simple terms, if you buy an option then you pay for it. If you sell an option then you get paid.
However, you do have to pay a premium upfront which is paid directly into the company that issues the option, so this must be considered when deciding how much risk you want to take on with your investment.
Types of Options :
Options are divided into:
- Call Options (CE)
- Put Options (PE)
The basic difference between a ‘put option’ and a ‘call option’ is ‘Put option’ would make you money if the stocks go down in value while the ‘Call option’ would make you money if the share prices increase.
Price of an option:
The price of an option is the sum of two parts:
- Intrinsic value (a function of market prices for the underlying asset): if current spot market price is above strike price, then this part will be positive and if it is below the strike price, then this part would be negative.
- Time value (time to maturity and volatility): Time value is risk premium which depends on time to maturity and volatility. The higher the volatility of the underlying asset, the higher the time value of an option.
How Options Premium Cost:
There are 4 major elements that contribute towards determining how much your Option will cost:
- Strike Price: the price that you are buying or selling the option for. This can be any value you choose even 0, so there is no obligation to buy/sell anything if you don’t want to.
- Time Value: this is the amount of time that you have before your option expires or ‘matures’.
- Stock Price: this is the price of a stock.
- Volatility: this is the degree of variation of a stock’s price. High volatility means large range prices over time, while low volatility denotes smaller range changes in price.
Options are used for what purpose?
Options are used for two main purposes:
1. Speculation – to make a profit from a rise or fall in the price of an asset without having to buy or sell it.
2. Hedging – protection against adverse movement in prices by using options.
How to Trade Options in India?
You can trade Options through a broker in the stock market. You can trade options in Index like Nifty and Bank Nifty or in Stocks.
Note: All stocks are not in F&O (Futures & Options).
Example: Suppose you want to Buy Options in ABC Ltd.
Consider ABC share price 480.
You can follow the same steps to buy options as mentioned above in how to trade Futures in India.
The Only difference is you need to type in the search box ABC XXX (Strike price).
You can Buy ABC Options for a particular strike price.
If you feel that ABC Company share prices will rise in the future, you can buy call options (CE) of a particular strike price. Like ABC 480 or ABC 490 for the above example.
On the other hand, if you feel that the price of ABC Company will fall in future, then you can buy put options (PE) of a particular strike price. Like ABC 480 or ABC 470 for the above example.
Finally, if you feel that the price of ABC company will remain the same in future, then there is no need for a call option or a put option and therefore, you can simply buy some shares of ABC Company directly without buying any option.
Some Important points about Options:
- Traditionally, options have been used mainly by professionals such as fund managers and corporate treasurers to deal in large volumes.
- It is important to understand what you stand to gain if your option goes up and equally important to know how much you will lose if it goes down.
- The risks involved in trading options should be taken seriously as they are quite different from trading in shares.
Advantages of Options in share market are as follows :
- Low Capital Required
- Huge Potential for Profit/Gain in a Short Span of Time.
- Useful when Market Trends are Unpredictable or Volatile.
Disadvantages of Options in share market are as follows:
- Short-term in nature.
- High risk of sudden fall in value.
- You can loose more money than you stand to gain, due to volatility (i.e.) share prices fluctuation within a short period of time.
What is the difference between futures and options?
Both futures and options are financial instruments that derive their value from the price of an underlying asset.
In some ways, futures and options are similar to each other. Both allow you to speculate on the future price movement of an asset.
However, they also have a number of significant differences that may make one financial product more desirable than another depending on the circumstances.
Here are the major differences between Future and Options:
1. Options are traded for a premium while Futures trades at market price.
2. In an option contract the buyer has to make a non-refundable payment called a premium for getting the rights of buying or selling the stocks but in Futures there is no such thing like premiums, one need to pay only if he executes his futures contract.
3. In an Options contract one can choose from the variety of strike prices and expiration dates whereas in futures a single monthly expiry date will be given for every contract.
4. One more important difference between options and futures is that on Index future (NIFTY and BANKNIFTY) a new contract will be created every month whereas, in Index options (NIFTY and BANKNIFTY), contracts is of weekly and monthly expiry.
5. The risk of losses are higher for an option buyer as compared to futures’ buyer because his premium money is locked in till the time he doesn’t execute his option contract whereas in futures, the buyer has to just pay only if he executes it.
Choosing to trade in your FNOs can be a tough decision. There are advantages and disadvantages for both tradings in futures and options.
The only way you’ll know which one is right for you is by understanding what each offers and determining whether it fits with your investment strategy.
FNO market requires skills, emotion control and Chart Reading to make money.
Bonus: Futures and Options should be used as a combination of both to do Hedging. In doing so, one can protect their money but also have the mental peace that comes with knowing they've taken all precautions possible.
Remember that FNO markets are not suitable for all investors since it is a zero-sum game. Trading in Derivatives is Highly Risky. It can vanish your full Capital.
The final decision is up to you, but the advantages and disadvantages of buying Futures and options trading should be considered.
Disclaimer – The article intends to help and educate a person about F&O. Trading in Futures or Options is risky where wrong trades can wipe out entire capital. Trade in the stocks after you do your own research. Take your own decision before investing.