Understand F&O instruments for trading

What are F&O instruments?

Why derivatives matter for traders

1. Leverage: Control large positions with small capital (margin ~10-20% of contract value)
2. Two-way profit: Make money in both rising (long) and falling (short) markets
3. Hedging: Protect your portfolio from adverse moves
4. Liquidity: High volumes index F&O (Nifty, Bank Nifty)

Futures contracts: The obligation contract

How futures work: Step-by-step

Example 1: Buying Nifty Futures

You're bullish on Nifty (currently at 21,000). You buy 1 lot of Nifty futures at₹21,000.

• Lot size: 50 (Nifty futures = 50 units)
• Contract value: 21,000 × 50 = ₹10,50,000
• Margin required: ~₹1,40,000 (13-15% typically)

Scenario A: Nifty rises to 21,500 at expiry $\text{Profit} = (21,500 - 21,000) \times 50 = 500 \times 50 = ₹25,000$

Why this step? You locked in buying at 21,000. Market settled at 21,500. You gained ₹500 per unit × 50 units.

Scenario B: Nifty falls to 20,500 $\text{Loss} = (20,500 - 21,000) \times 50 = -500 \times 50 = -₹25,000$

Why this step? You're obligated to buy at 21,000 but market is at 20,500. You overpaid ₹500 per unit.

Example 2: Selling (Shorting) Stock Futures

You think Reliance (₹2,500) will fall. You sell 1 lot Reliance futures at ₹2,500.

• Lot size: 250
• Contract value: 2,500 × 250 = ₹6,25,000
• Margin: ~₹90,000

At expiry, Reliance at ₹2,400: $\text{Profit} = (2,500 - 2,400) \times 250 = 100 \times 250 = ₹25,000$

Why this step? You sold at 2,500 (obligated to deliver at that price). Market fell to 2,400. You can buy at 2,400 and deliver at 2,500, pocketing ₹100/share.

Key features of futures

Options contracts: The right without obligation

Why options are powerful

Asymetric risk-reward:

• Buyer: Risk limited to premium paid; profit potentially unlimited
• Seller: Profit limited to premium; risk potentially unlimited

Options terminology

Core terms:

• Strike Price (K): The price at which you can buy (call) or sell (put)
• Spot Price (S): Current market price of underlying
• Premium: Price you pay for the option
• Lot Size: Number of units per contract
• Expiry: Last Thursday of month (weekly options also available)

Moneyness:

• In-the-Money (ITM): Call when S > K; Put when S < K (has intrinsic value)
• At-the-Money (ATM): S ≈ K (most liquid)
• Out-of-the-Money (OTM): Call when S < K; Put when S > K (zero intrinsic value, only time value)

Example3: Buying a Call Option

Nifty at 21,000. You buy 21,200 Call expiring in 10 days.

• Premium: ₹150 per unit
• Lot size: 50
• Total cost: 150 × 50 = ₹7,500 (this is your maximum loss)

Scenario A: Nifty rises to 21,500 at expiry

Intrinsic Value = 21,500 - 21,200 = ₹300

$\text{Profit} = (300 - 150) \times 50 = 150 \times 50 = ₹7,500$

Why this step? Your option gives you the right to buy at 21,200. Market is at 21,500. You gain ₹300 per share. Subtract the₹150 premium you paid = ₹150 net profit per share.

Scenario B: Nifty stays at 21,000

Option expires worthless (S < K).

$\text{Loss} = -150 \times 50 = -₹7,500$

Why this step? No point exercising a right to buy at 21,200 when market is at 21,000. You lose only the premium paid.

Example 4: Buying a Put Option

You think Bank Nifty (48,000) will fall. Buy 47,500 Put for ₹200 premium.

• Lot size: 15
• Total cost: 200 × 15 = ₹3,000

At expiry, Bank Nifty at 46,800:

Intrinsic Value = 47,500 - 46,800 = ₹700

$\text{Profit} = (700 - 200) \times 15 = 500 \times 15 = ₹7,500$

Why this step? Your put gives you the right to sell at 47,500. Market is at 46,800. You buy at market and sell at strike, gaining ₹700 per share, minus ₹200 premium = ₹500 net.

Example 5: Selling (Writing) a Call Option

Advanced strategy. You think Nifty won't cross 21,500. You sell21,500 Call at ₹100 premium.

• Premium collected: 100 × 50 = ₹5,000(your maximum profit)
• Margin blocked: ~₹70,000 (exchange requirement)

If Nifty stays at 21,300at expiry:

Option expires worthless. You keep the ₹5,000 premium.

If Nifty rises to 22,000:

Buyer exercises. Intrinsic Value = 22,000 - 21,500 = ₹500

$\text{Loss} = (500 - 100) \times 50 = 400 \times 50 = -₹20,000$

Why this step? You're obligated to sell at 21,500 when market is 22,000. You lose ₹500 per share minus the ₹100 premium you collected.

Futures vs Options: When to use what

When to use Futures:

• You have strong directional view and want maximum leverage
• You're hedging a portfolio with exact opposite position
• You want to hold for weeks without worrying about time decay

When to use Options:

• Limited risk capital (buying options)
• Volatility play (straddle/strangle)
• You want asymetric payoff (small loss, big gain potential)
• Income generation (selling options with defined risk management)

Real trading example: Hedging with F&O

Setup: You hold₹10,000 worth of Nifty stocks (diversified portfolio that moves with Nifty). Market feels topy. You want protection.

Strategy: Buying Put options (portfolio insurance)

Nifty at 21,000. Buy 20,800 Put (1% OTM) for ₹80 premium.

• Contracts needed: ₹10,00,000 ÷ (21,000 × 50) = ~1 lot
• Insurance cost: 80 × 50 = ₹4,000

If market crashes to 19,500:

• Portfolio loss: (19,500 - 21,000) ÷ 21,000 = -7.14% = -₹71,400
• Put profit: (20,800 - 19,500 - 80) × 50 = ₹61,000
• Net loss: -₹71,400 + ₹61,000 = -₹10,400

Why this step? The put acts as insurance. It doesn't eliminate loss but drastically reduces it. You paid ₹4,000 for protection that saved you ₹61,000 in a crash scenario.

Connections 4.1.01-Cash-market-vs-derivatives — Foundation of why derivatives exist

• 4.2.05-Lot-sizes-and-marginrequirements — Practical capital planning
• 4.3.01-Option-Greeks-delta-gamma-theta-vega — Deeper options math
• 5.1.02-Hedging-strategies-for-portfolio-protection — Real-world F&O application
• 4.2.06-Expiry-day-dynamicsand-settlement — Critical timing rules
• 3.4.03-Understanding-leverage-and-margin — Risk implications of F&O

#flashcards/stock-market

What is a futures contract? :: A standardized derivative contract that obligates both buyer and seller to transact at a predetermined price on a future date.

Concept Map

Hinglish (regional understanding)