OPTIONS & FUTURES PROJECT

FUTURE
Identify the Future
The future we have used for the project purpose is a 3-month CNX NIFTY
Future, expiring 30-12-2010.

Contract Specifications
The Asset: The underlying financial asset for the chosen futures contract is
the NIFTY Index, more specifically, S&P CNX Nifty which is a 50 stock index.
It is owned and managed by IISL, a joint venture between CRISIL and NSE.
The base year is taken as 1995 and the base value is 2000.

The Contract Size: The lot size for S&P CNX NIFTY Futures is 50.

Delivery Arrangements: These clearing arrangements are taken care of by

NSCCL (National Securities Clearing Corporation). NSCCL carries out the
clearing and settlement of the trades executed in the equities and
derivatives segments of the NSE. It aggregates trades over a trading period,
nets the positions to determine the liabilities of members and ensures
movement of funds and securities to meet respective liabilities. There are 13
designated clearing banks.

Expiry Day: Last Thursday of the expiry month. If the last Thursday is a
trading holiday, then the expiry day is the previous trading day.

Price: The price steps are in Rs. 0.05. The Price Band is mentioned as
“operating range of 10%of the base price”.

Potential Users of this contract

A Nifty future’s price will tail that of the Nifty, and accordingly, any
movements in the underlying index will be mirrored in the price of the
future. Potential users of a Nifty Future can be investors who want to hedge
a well-diversified equity portfolio, or who want to have exposure to only a
particular stock, while hedging exposure to the rest of the market.

Description of the Exchange

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 OPTIONS & FUTURES PROJECT

This index future derivative is listed on National Stock Exchange (NSE) which
is one of the leading stock exchanges in India. NSE offers trading in Capital
Market, Derivatives Market and Currency Derivatives segments including
equities, equities based derivatives, Currency futures and options, equity
based ETFs, Gold ETF and Retail Government Securities. NSE's normal
trading sessions are conducted from 9:15 am India Time to 3:30 pm India
Time on all days of the week except Saturdays, Sundays and Official
Holidays. The daily turnover in the derivatives (F&O) segment as on 28 th
October 2010 was Rs. 252,504. 79 crores and the number of trades on the
same date were 2479760.

Trading, Settlement and Margins

Clearing and settlement of index futures on NSE is handled by National
Securities Clearing Corporation Limited (NSSCL). Nifty futures are settled on
a daily basis by marking to market all the open positions at the end of the
trading day. Members are required to pay mark-to-market losses on T+1
day. The contracts are finally settled on the expiry date. Brokerage rates
range between 0.1 to 0.2 percent of contract value

NSE uses the SPAN (Standard Portfolio Analysis of Risk) system for the
purpose of margining. There are two types of NSE members: Clearing
Members and Trading Members. External clients deal directly with only the
TMs. There are many different types of margins on the NSE:

1. Span Margin
Based on the initial margin requirement calculated by SPAN, the
exchange collects this margin from the CMs, who in turn collect these
from their TMs, who collect these from the clients. Generally, initial
margins are calculated using 99% confidence interval 1-day VaR, but
for index/equity derivatives, it is calculated over a 2-day horizon based
on certain statistical formulae.
2. Premium Margin
Applicable to Options only.
3. Assignment Margin
Applicable to Options only.

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Kachhy (B09030)
 OPTIONS & FUTURES PROJECT

Net Initial Margin Requirement = Span Margin + Premium

Margin + Assignment Margin
4. Exposure Margin
a. For an index future, 3% of notional value of contract
b. For a future on an individual security, the higher of 5% or 1.5
standard deviation of the notional value of gross open position in
futures on individual securities and gross short open positions in
options on individual securities in a particular underlying.

Comments on Trading Data

Submitted by: Anupam Kumar (B09011), Arjun Kumar (B09072), Ashish Dewan (B09013), Meet
Kachhy (B09030)
 OPTIONS & FUTURES PROJECT

Submitted by: Anupam Kumar (B09011), Arjun Kumar (B09072), Ashish Dewan (B09013), Meet
Kachhy (B09030)
 OPTIONS & FUTURES PROJECT

Actual / Theoretical Price Movements, and Deviations

The actual price movements have ranged from 5778 to 6352. These have
tracked the movements in the underlying. This can be seen in the graph
below.

Trading Volumes / Open Interest

Open Interest, as well as Trading Volume, tends to lie dormant for the first
half of a 3-month a futures contract. Post this, it picks up suddenly, going up
almost 5-6 times within a week’s time. It stays at this level till another
month or so. This is the period we have studied for the future in question.

This trend tells us that investors typically go for near-month contracts over
far-month contracts, leading to heightened interest in the second half of a
far-month contract.

Submitted by: Anupam Kumar (B09011), Arjun Kumar (B09072), Ashish Dewan (B09013), Meet
Kachhy (B09030)
 OPTIONS & FUTURES PROJECT

Hedging Example
We have chosen the stock of Axis Bank as the cash asset to be hedged using
the Dec NIFTY futures being discussed. It is a part of the 50 scrips which
make up the NIFTY Index itself, mentioned therein as:

Axis Bank Ltd., BANKS, AXISBANK, EQ, INE238A01026

Calculations:

The Spot Prices of the Axis Bank Stock from 1st Oct to 14th Dec 2010 were
taken and similarly the LTP of the derivative under consideration.

Delta S and Delta F were calculated and the regression results have been
shown below.

Regression Statistics

Multiple R 0.53143

R Square 0.282418

Adjusted R Square 0.267773

Standard Error 24.26861

Observations 51

Also, Coefficient of Correlation between Delta S and Delta F= 0.53143

Standard Deviation of Delta S= 28.36103; σ2S = 804.3479

Standard Deviation of Delta F= 77.12982; σ2F = 5949.009

Hence,
Submitted by: Anupam Kumar (B09011), Arjun Kumar (B09072), Ashish Dewan (B09013), Meet
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 OPTIONS & FUTURES PROJECT

Hedge Ratio that minimizes the variance of the hedger’s position =

0.53413*(28.36103/77.12982)

= 0.195409

Options

Instrument Type: OPTIDK (Options Index)

Underlying: NIFTY Index
Expiry Date: 30th December, 2010
Option Type: CE (European Call)
Strike Price: 5500 points
Lot Size: 50

The option has the underlying as the NIFTY Index. It is a contract which
allows the buyer the option to buy the NIFTY Index Stocks at the 5500 points
on 30th December, 2010. It is not a physically deliverable contract, and can
only be settled mark to market.

The users of such a contract would include investors wanting to hedge risk of
an upside in the NIFTY Index, investors wanting to take a position on the
underlying index and investors looking for arbitrage.

It is traded on the National Stock Exchange of India. NSE is one of the largest
stock exchanges in India, offering trading in capital market, derivatives
market and currency derivatives segments including equities, equities based

Submitted by: Anupam Kumar (B09011), Arjun Kumar (B09072), Ashish Dewan (B09013), Meet
Kachhy (B09030)
 OPTIONS & FUTURES PROJECT

derivatives, currency futures and options, equity based ETFs, gold ETF and
retail government securities.

Margins
Two types of margins are applicable - Initial margin payable at the point of
buying/selling the options and Mark to Market Margins payable on a daily
basis after that. Both these margins are calculated using a special software
program called SPAN, which has been developed by the Chicago Mercantile
Exchange.

Settlement Mechanism
Settlement is cash settled. The payable position and receivable positions
are netted across all option contracts at the client level to determine the net
premium payable or receivable amount, at the end of each day.

Actual price movements, volumes, open interest

The bourse reports opening, closing, high, low and the last traded price for
each day. The base prices of the contract on subsequent trading days are
the daily close prices of the options contract. The closing price is calculated
as either the last half an hour weighted average price if the contract is
traded in the last half an hour or last traded price (LTP) of the contract if it
not traded in the last half an hour, but traded during any time of the day.

The volume or market breadth for an option is measured in terms of number

of shares. Besides this, trading Volume for an option is similar to that of a
stock. A large percentage change in price accompanied by larger than
Submitted by: Anupam Kumar (B09011), Arjun Kumar (B09072), Ashish Dewan (B09013), Meet
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 OPTIONS & FUTURES PROJECT

normal volume is a solid indication of market strength in the direction of the

change. The lot size for NIFTY options is fifty so the total volume should be
number of lots traded multiplied by fifty.

Open interest tells us the total number of option contracts traded but not yet
liquidated by either an offsetting trade or exercising the option. The data
mentioned in the excel sheet is in terms of number of shares. Now as seen
from above data, open interest for an option may fall or rise in a day. A
value of 6400 shares were removed from open interest on 14th Dec. infers
that, 6400/50 = 128 number of contracts were either offset traded or were
squared up with the option writer. However, option traded in secondary
market where buying and selling matches, there is no change in open
interest.

Put Call Parity

It’s the relationship between call and put option prices and is applicable for
European options. We have derived this is the excel workings and the results
show the values for Put Price + Stock being approximately equal to Call Price
+ Cash Equivalent.
P0 +S0 = C0 +K*exp(-rt)

Delta
The delta is the change in the underlying asset price to the corresponding
change in the price of the option. Since we are working on a call option we
have got positive delta values. Since the option is close to expiring we are
seeing delta values close to one.

Submitted by: Anupam Kumar (B09011), Arjun Kumar (B09072), Ashish Dewan (B09013), Meet
Kachhy (B09030)
 OPTIONS & FUTURES PROJECT

Theoretical option price limits

We have derived both the upper and lower bound limits for the option on
each date. The upper bound is the index value that day whereas lower
bound is the present value of strike price. In some case we have negative
lower bound, but since value of an option cannot be negative we have taken
that as zero.

Theoretical price as per Black-Scholes

We have derived option prices as Black-Scholes model. Some deviations are
seen from the call prices. These may be due to different risk free rate.
Another possible reason is the perceived volatility in the call prices by the
market.

Trading strategies
We have used the following trading strategies:
Covered Call - Buy Nifty today and along with this sell the call option. Selling
a call option along with the buying nifty gives restricts the upside to 474.45
rupees as shown in the graph.

Protective Put - Buy Nifty today and along with this buy the put option.
Buying a put option along with the nifty gives us the insurance as the
downside is restricted to 27.65 rupees as shown in the graph.

Submitted by: Anupam Kumar (B09011), Arjun Kumar (B09072), Ashish Dewan (B09013), Meet
Kachhy (B09030)
 OPTIONS & FUTURES PROJECT

NOTE: All the calculations are shown in the excel sheet attached.

OPF_Project_-_Futur OPF_Project_Option
es.xlsx s.xlsx

Submitted by: Anupam Kumar (B09011), Arjun Kumar (B09072), Ashish Dewan (B09013), Meet
Kachhy (B09030)