How to Trade in Stock Options and Futures

 
Since the past decade, the stock market has become a hot place to invest and make money, especially the futures and options (f&o) segment. No doubt long term investing  in the stock markets (5-10 years in trustworthy stocks) will bring in good returns, but strangely, when it comes to the f&o, it seems only the big ticket players make it bigger whereas the 'poor' retail investors become poorer. There are very few of us retail investors who would say that they have actually made money in f&o.. I am one of them. I started as any other retail investor, not knowing anything about how the damn thing operates, trusted my stock broker, and... what else..ended up losing big time! But after taking a lot of personal efforts, my fortunes have changed. Here's a rough guide on how to trade in f&o.

Things You'll Need

Patience, basic knowledge, enough back-up capital, discipline, patience again!

 

Steps

Enough playable money. Do not venture into the f&o if you have limited amount of capital. Though the broker may paint a rosy picture for you and give you examples of fantastic returns, do not get carried away! For e.g. if you have, let's say, Rs. 5 lacs to invest, then, I'd say, you divide this capital into equal parts. Put 1 lac in F.D., 1 lac in mutual funds, 1 lac in bonds, 1 lac in trustworthy stocks and with the remaining 1 lac you can enter the f&o arena. Don't get me wrong, if you play right your f&o can really bring in fantastic returns. If you are absolutely new to futures and options, I'd suggest that you first read up on what they are and how they operate. Both these instruments have different set of rules on which they operate.

Do not depend on external advise. No one can make more money for you than yourself. Trust no one. Your broker makes money either ways, whether you lose or win. I remember during the 2007-8 crash, I ended up losing big time in the stock that my broker had picked for trading in f&o. He kept advising me to hold on to it but the price kept going lower and lower and I had to later sell it at a huge loss. I paid a heavy price for it, literally, because of my broker's lack of knowledge. For picking winning stocks, you need to know how to read the charts. There are many classes online and otherrwise that are willing to share their chart knowledge with you for a small price. I say small because if you get the right knowledge on how to read the charts, you can make BIG money. The charts become your best friends and no.. you do not need to be a finance expert to read the charts. I have an Arts and Law background but I can proudly say that now I rarely make a mistake in picking out winner stocks.

Exit on intuition. Most of us get the intuition that it is now time to exit but still hold on to the futures either with greed if the price has gone above your buy price or with ego hassles if it has gone below. You have to take calculated decisions and stick to them. If you are not capable of reading your intuition, then set a stop loss beyond which you vow not to carry your stock. It is better to lose a bit now, then to pay a heavy price later. On the other hand, set a reasonable target price for your stock to exit at a profit and exit it the minute it is achieved. It does not pay to get greedy. Do not expect miracles overnight.

Trade in Index futures. Sometimes the stock prices are artificially driven or a particular sector may take a hit for that day because of some policy change or even a rumour of a policy change. Since the stock prices are highly sensitive to news, it is better to trade in index futures which are much safer and far less costly. That way your holding capacity also increases. The f&o expires on the last Thursday of each month. You have the option of rolling over if your price target is not achieved. But I would recommend not holding on to your futures for very long unless you have become an expert in reading charts and gained confidence on the movement of stock prices.

Do not become a manic trader. The futures can be traded either ways.. You can buy stock/ index futures and sell at a later time/ date. In which case it means that you are long and expect the prices to go up. You can even sell your futures first and buy it out at a later time/ date in which case you are short. Do not try to time the market and go long or short frequently. The market has a tendency to correct in a bull market which does not mean that it is changing trajectory. At the same time, even in a bear market, the prices may rise but it may only be a temporary retracement.

Trade in options. Options offer a safer and much cheaper way of trading with good enough returns. Your investment is limited and therefore your loss is also limited. Whereas in futures, even if your investment is limited, your losses have no limits if you make a wrong decision. Therefore a rookie f&o trader may start with options, gain confidence and then move on to futures with the money earned in the options segment. But beware, not all stocks have good volume in options. Therefore it may get difficult to offload the particular stock options. The best is to choose index options like the Nifty options. Again you can be long , i.e. buy a call option or you can be short and buy a put option.

Be patient. Whenver I trade I have noticed that just after I buy futures at a particular price, it immedaitely comes down. This feature used to earlier cause me to panic and make losses by selling at a lower price. That's just what to avoid doing. You can never 'catch' the right price. As long as you are confident about your chart-reading ability, remain calm and patient and wait for the right price. What satisfaction!

 

Tips

There is a tendency that whenever we go long or short, the market buzz says the opposite. Do not listen to the buzz, just wait patiently for your price to come. But for this you really need to have read the charts well.

 

Caution

Trading is a hazardous passtime. Do not treat it lightly. Many get overconfident with beginner's luck profits. Do not get carried away. At first learn to use your chart knowledge just on imaginary trading.. see how your decisions are working out and once you get confidence, you can slowly start with options. Remember, you can never be right 100% of the time. If you are then bravo for you! The best of us can sometimes overlook certain factors.