How does Options Trading work in Derivative Market?

Derivatives are financial assets that gain value from an underlying security. The underlying assets could be Stocks, Bonds,Physical Assets, Currencies, or in more complex cases, other derivatives. The value of a derivative increases or decreases depending on the underlying asset’s price. Note that thederivative and the underlying asset price do not move together. 

Options Trading is an exciting opportunity to enter the Stock Market. It is a leveraged investment tool with high potential rewards but high-risk potential. You can trade with the stock option without owning the underlying stock. You can also buy an option on a stock or index than buying the stock or the index. Here are other basics about Options Trading: 

Basics

Options Derivatives gives traders the right and not the obligation to either sell or buy security before the contract expiry. Options generally represent 100 shares of the underlying security, ranging from Bonds to Commodities to Currencies. Moreover, ownership of options does not give you ownership of the underlying stock. 

There are two Options Contract: Call and Put. While Call options let you buy shares at a given time, Put options allow selling at a specific time. Speculators depend on the fundamental or technical analysis of the stock, wager on the future direction of the price, and take a position. Traders use options to speculate the future price direction or edge to reduce risk. 

Hedgers use Options like an Insurance Policy,limiting downside risk while letting them enjoy the upside. 

Buying and selling Puts and Calls

You may either buy (long) or sell (short) Puts with Options. You could also buy (long) or sell (short) Calls.If you buy a stock, it means you have a long position. If you won a Call option, you have a potential long position on the stock. You get a short position when you short sell a stock. Selling an uncovered call givesa potential short position.

If you buy a stock, you have a potential short position. If you sell it, you have a potential long position. Buying an Option makes you holders, while selling makes you writers of Options. Some differences between writers and holders are:

1. Holdersor Put holders and Call holdersare not obligated to buy or sell their position. They havethe right or a choice to exercise their positions.
2. Sellersor Put writers and Call writers need not sell or buy the Option if it expires in the money. It means a seller may carry out their promise to buy or sell. Consequently, sellers have more exposure to risk than buyers.

A key to understanding Options is that the more likely it is for an event to occur, the more expensive the Option that stands to profit from it will be.