Futures & Options

PRESENTED BY GROUP-4

TYPES OF DERIVATIVES

Forwards A forward contract is customized contract between two entities, where settlement takes place on a specific date in the future at todays pre-agreed price.

Futures An agreement between two parties to buy or sell an asset at a certain time in the future at a certain price . Futures contacts are special types of forward contracts in the contracts in the sense that the former are standardized exchange-traded contracts.

Options Options are of two types calls and puts. Calls give the buyer the right but not the obligation to buy a given quantity of the underlying asset, at a given price on or before a given future date. Puts give the buyer the right, but not obligation to sell a given quantity of the underlying asset at a given price on or before a given date.

OPTIONS AND FUTURES

Futures contracts are an obligation

Must deliver or offset Liable for margin calls Locked into a price

Options on futures contracts are the right to take a position in the futures

market at a given price called the strike price, but beyond the initial premium, the option holder has no obligation to act on the contract

Lock-in a price but can still participate in the market if prices move favorably No margin calls Pay a premium for the option (similar to price insurance)

PUT AND CALL OPTIONS

Put option: the right to sell a futures contract at a

given price (right to a short position at a given (strike) price)

Call option: the right to buy a futures contract at a

given price (right to a long position at a given (strike) price)

Puts and Calls

Call and put options are separate contracts and not

opposite sides of the same transaction. They are linked to the Futures
Buyer
Put Option

Seller
Buyer Futures Seller

Buyer Call Option

Seller

Rights of Option Buyers and Sellers

Put Options

Buyers: can exercise the right to a short position in futures at the strike price anytime before the option expires. For this right, they pay the option premium. Sellers (writers): must provide the option buyer with a short futures position if the option is exercised. Must meet margin calls if the underlying futures contract price moves below the option strike price. Receives the option premium after the option expires.

Rights of Option Buyers and Sellers

Call Options

Buyers: can exercise the right to a long position in futures at the strike price anytime before the option expires. For this right, they pay the option premium. Sellers (writers): must provide the option buyer with a long futures position if the option is exercised. Must meet margin calls if the underlying futures contract price moves above the option strike price. Receives the option premium after the option expires.

Strike Price Relationship to Current Futures Price

Condition Put Option Call Option

SP < futures

Out-of-the money

In-the money

SP = futures

At-the money

At-the money

SP > futures

In-the money

Out-of-the money

DIFFERENCE BETWEEN FUTURES AND OPTIONS FUTURES

Futures contract is an agreement

OPTIONS
In options the buyer enjoys the

to buy or sell specified quantity of the underlying assets at a price agreed upon by the buyer and seller, on or before a specified time. Both the buyer and seller are obliged to buy/sell the underlying asset. both buyer and seller.

right and not the obligation, to buy or sell the underlying asset. premium paid) for buyer and unlimited upside. For seller (writer) of the option, profits are limited whereas losses can be unlimited.

Limited downside (to the extent of

Unlimited upside & downside for

Futures contracts prices are

Prices of options are however,

affected mainly by the prices of the underlying asset

affected by a)prices of the underlying asset, b)time remaining for expiry of the contract and c)volatility of the underlying asset.

Call Option

Put Option

Option Buyer

Buys the right to buy the underlying asset at the Strike Price

Buys the right to sell the underlying asset at the Strike Price

Option Seller

Has the obligation to sell the underlying asset to the option holder at the Strike Price

Has the obligation to buy the underlying asset from the option holder at the Strike Price

USING STOCK FUTURES

1. Hedging: long security, sell future 2. Speculation: bullish security, buy Futures

3. Speculation : bearish Security, Sell Futures

4. Arbitrage: overpriced Futures: buy spot, sell futures 5. Arbitrage: underpriced Futures: buy spot, sell futures

USING STOCK OPTIONS

Hedging: Have stock, buy puts

Speculation: bullish stock, buy calls or sell puts

Speculation : bearish Stock, buy put or sell calls

THANK YOU