What is Option?

In Global Financial Markets, for many years, options have been a means of conveying rights
from one party to another at a specified price on or before a specific date. Options to buy and sell
are commonly executed in real estate and equipment transactions, just as they have been for
years in the securities markets. There are two types of option agreements:

CALLS and PUTS.

• A CALL OPTION is a contract that conveys to the owner the right, but not theobligation, to purchase a prescribed number of shares or futures contracts of an
underlying security at a specified price before or on a specific expiration date.

• A PUT OPTION is a contract that conveys to the owner the right, but not obligation, to
sell a prescribed number of shares or futures contracts of an underlying security at a
specified price before or on a specific expiration date.

Consequently, if the market in a security were expected to advance, a trader would purchase a
call and, conversely, if the market in a security were expected to decline, a trader would purchase

a put. With the advent of listed options, the inconvenience and difficulties originally associated
with transacting options have been greatly diminished.

What are futures?

Futures and options represent two of the most common form of "Derivatives". Derivatives are financial instruments that derive their value from an 'underlying'

Futures

A 'Future' is a contract to buy or sell the underlying asset for a specific price at a pre-determined time. If you buy a futures contract, it means that you promise to pay the price of the asset at a specified time. If you sell a future, you effectively make a promise to transfer the asset to the buyer of the future at a specified price at a particular time. Every futures contract has the following features:

• Buyer
• Seller
• Price
• Expiry

Some of the most popular assets on which futures contracts are available are equity stocks, indices, commodities and currency.

The difference between the price of the underlying asset in the spot market and the futures market is called 'Basis'. (As 'spot market' is a market for immediate delivery) The basis is usually negative, which means that the price of the asset in the futures market is more than the price in the spot market. This is because of the interest cost, storage cost, insurance premium etc., That is, if you buy the asset in the spot market, you will be incurring all these expenses, which are not needed if you buy a futures contract. This condition of basis being negative is called as 'Contango'.

Sometimes it is more profitable to hold the asset in physical form than in the form of futures. For eg: if you hold equity shares in your account you will receive dividends, whereas if you hold equity futures you will not be eligible for any dividend.