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What is Stock Option? Meaning Types & Benefits 

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Synopsis:

Inflation indexed bonds are issued by the Reserve Bank of India (RBI) and provide investors protection against inflation. This is how they work. The government increases their principal every year based on the consumer price index (CPI). A flat coupon rate is applied to the adjusted principal every year. Hence, the investors get a fixed coupon rate over and above the rate of inflation. While such bonds protect against inflation, they usually offer lower yields than other bonds. Hence, they may not be the best investment option for everyone.

Stock options are financial contracts that grant the right, but not the obligation, to transact a specific stock at a fixed price within a set time frame. They serve multiple purposes—hedging, income generation, or portfolio diversification. Stock options can be used by retail investors, institutions, or employees through compensation plans. Each stock option contract represents a standardised unit, typically tied to 100 shares of the underlying stock on Indian exchanges. Investors use options to participate in the market without directly owning the underlying security. Their value depends on various factors including time to expiry, underlying stock price, volatility, and interest rates. Stock options can be structured as call or put contracts, with clearly defined strike prices and expiration dates. Understanding their features is important for effective strategy building, especially when used for risk management or speculative exposure.

Key features of stock options

  1. Strike price

    This is the predetermined price at which the option holder may choose to initiate the contract. It remains fixed throughout the option’s duration.
  2. Premium

    The premium is the upfront cost paid to initiate an option contract. It is non-refundable and determined by market factors such as volatility and time.
  3. Expiration date

    Each option contract has a set expiry date, after which it ceases to exist. Indian options expire on the last Thursday of the contract month.
  4. Lot size

    Stock options on Indian exchanges are traded in standardised lots. The lot size varies by stock and is determined by SEBI guidelines.

How does a stock option work?

Stock options function through a structured agreement between two parties—the option writer and the option holder. The holder has the right, but not the obligation, to transact the underlying asset at a predetermined strike price within the contract’s validity. Options are available in two forms: calls and puts. A call option allows the holder to consider acquiring the underlying stock at the strike price, while a put option provides the right to consider relinquishing it. The option writer receives a premium upfront and assumes an obligation if the holder chooses to execute the contract. The value of an option fluctuates based on the underlying stock’s price movement, time decay, implied volatility, and interest rates. Options can be settled either physically or in cash, depending on the contract terms. In India, most stock options are cash-settled on exchanges like NSE. These contracts can be used for hedging existing positions or building strategic exposure.

Conclusion

Stock options are versatile financial instruments that offer structured exposure to equity markets without the need for full ownership. They function through predefined contracts, allowing investors to consider participating in market movements under specific conditions. For Indian investors, stock options serve various roles—risk management, strategy execution, and income generation. Understanding how they work, including their features, pricing, and settlement mechanisms, is crucial before incorporating them into a portfolio. As with any financial instrument, it is important to align options usage with one’s financial goals, risk appetite, and investment horizon. Given their sensitivity to time, volatility, and price movements, investors must approach them with careful planning and awareness of potential outcomes. Whether used for downside protection or speculative strategies, stock options require sound knowledge and discipline. When approached responsibly and used through regulated platforms, they offer a meaningful tool to navigate market uncertainty and achieve defined outcomes.

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The information on this website is provided on "AS IS" basis. Bajaj Broking (BFSL) does not warrant the accuracy of the information given herein, either expressly or impliedly, for any particular purpose and expressly disclaims any warranties of merchantability or suitability for any particular purpose. While BFSL strives to ensure accuracy, it does not guarantee the completeness, reliability, or timeliness of the information. Users are advised to independently verify details and stay updated with any changes.

The information provided on this website is for general informational purposes only and is subject to change without prior notice. BFSL shall not be responsible for any consequences arising from reliance on the information provided herein and shall not be held responsible for all or any actions that may subsequently result in any loss, damage and or liability. Interest rates, fees, and charges etc., are revised from time to time, for the latest details please refer to our Pricing page.

Neither the information, nor any opinion contained in this website constitutes a solicitation or offer by BFSL or its affiliates to buy or sell any securities, futures, options or other financial instruments or provide any investment advice or service.

BFSL is acting as distributor for non-broking products/ services such as IPO, Mutual Fund, Insurance, PMS, and NPS. These are not Exchange Traded Products. For more details on risk factors, terms and conditions please read the sales brochure carefully before investing.

Investments in the securities market are subject to market risk, read all related documents carefully before investing. This content is for educational purposes only. Securities quoted are exemplary and not recommendatory.

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