NISM Series VIII flashcards

32 cards. Read the term and the definition here. The deck at the top of this page is optional.

Forward contract payoff

For the long, payoff at maturity equals spot price minus the agreed forward price. The short's payoff is the negative. Forwards are OTC, bilateral, and carry counterparty credit risk.

Futures fair value formula

F = S × e^((r − q) × T) for continuous rates, where S is spot, r the risk-free rate, q the dividend yield, and T time to expiry. Deviations create cash-and-carry arbitrage opportunities.

Mark-to-market settlement

Daily crediting or debiting of futures gains and losses to the margin account, computed as settlement price change times lot size times number of contracts. Prevents accumulation of counterparty exposure.

Initial vs maintenance margin

Initial margin is the deposit required to open a futures position. Maintenance margin is the minimum equity level; breaching it triggers a margin call to restore the account to the initial level.

Put-call parity

For European options: C + K × e^(−rT) = P + S. With dividends, S is reduced by the present value of dividends. Violations create arbitrage opportunities between calls, puts, stock and bonds.

Intrinsic value of call

max(S − K, 0), where S is spot and K is strike. Time value equals premium minus intrinsic value. An option trading below intrinsic value would permit riskless arbitrage.

Moneyness definitions

A call is in-the-money when S > K, at-the-money when S = K, out-of-the-money when S < K. For puts the conditions reverse: ITM when S < K, OTM when S > K.

Option premium components

Premium equals intrinsic value plus time value. Time value is greatest for at-the-money options and declines to zero at expiry, accelerating in the final weeks.

Delta

Change in option price for a one-rupee change in the underlying. Call delta ranges from 0 to +1; put delta from −1 to 0. Portfolio delta sums delta times quantity times lot size.

Gamma

Rate of change of delta per unit change in the underlying. Largest for at-the-money near-expiry options. Long options have positive gamma; short options have negative gamma.

Theta

Change in option value per day passing, all else constant. Negative for long options and positive for short options. Time decay accelerates as expiry approaches, especially for at-the-money options.

Vega

Change in option value for a 1% change in implied volatility. Long options have positive vega; higher implied volatility raises both call and put premiums. Largest for at-the-money, longer-dated options.

Rho

Sensitivity of option value to a 1% change in the risk-free interest rate. Calls have positive rho, puts negative rho. The effect is small for short-dated options.

Covered call strategy

Long stock plus short call. Premium income is earned, and upside is capped at the strike plus premium received. Downside remains exposed to the full decline in the stock price.

Protective put

Long stock plus long put. The put acts as insurance, establishing a floor at the strike minus the premium paid, while retaining upside participation in the stock.

Bull call spread

Buy a lower-strike call and sell a higher-strike call with the same expiry. Net debit paid. Maximum profit is strike difference minus debit; maximum loss is the debit.

Bear put spread

Buy a higher-strike put and sell a lower-strike put with the same expiry. Net debit paid. Profits when the underlying falls; maximum loss is the net debit.

Long straddle

Buy a call and a put at the same strike and expiry. Profits from large moves in either direction; maximum loss is the total premium paid if price stays at strike.

Short straddle

Sell a call and a put at the same strike and expiry. Collects premium but carries unlimited upside risk and large downside risk. Requires margin and is exposed to volatility spikes.

Butterfly spread

Buy one low-strike call, sell two at-the-money calls, buy one high-strike call. Limited risk and limited reward; profits when the underlying stays near the middle strike at expiry.

Implied volatility

The volatility input that makes a model price equal the observed market price. Higher implied volatility raises both call and put premiums. IV varies with strike, producing smile or skew.

Index futures hedge ratio

Number of contracts = (portfolio beta × portfolio value) ÷ (futures price × lot size). Used to hedge a portfolio's market exposure using index futures.

Cash-and-carry arbitrage

When futures trade above fair value, borrow funds, buy the underlying, and sell futures. Reverse cash-and-carry applies when futures trade below fair value. Profits only exceed transaction costs.

Novation by clearing corporation

The clearing corporation interposes itself between buyer and seller, becoming counterparty to both. This removes bilateral counterparty risk and enables netting and margin collection.

SPAN margin

Standard Portfolio Analysis of Risk: a margining system that computes worst-case portfolio loss over a defined price and volatility range, plus an exposure margin added by the exchange.

Single-stock derivatives settlement

Since October 2019, stock futures and options in India are physically settled by delivery of shares. Index derivatives remain cash-settled against the final settlement price.

Corporate action adjustment

Bonus issues, splits, dividends and rights issues cause exchanges to adjust strike prices and lot sizes of open derivative positions so that contract value is preserved.

Upfront client margin

SEBI requires brokers to collect initial margin from clients before trade execution. Client funds must be segregated from proprietary funds; commingling is prohibited.

Unique Client Code

A code assigned to each client per exchange, used to identify and track client positions and margins. Required for KYC-compliant onboarding and regulatory reporting.

Position limits

Caps on open interest at client, trading-member and FPI levels in index and stock derivatives, monitored by exchanges to control concentration and systemic risk.

Value at Risk

A statistical estimate of the maximum loss over a given horizon at a specified confidence level. Used alongside stress testing for margin and risk management.

Trade lifecycle

Order capture, execution, confirmation, clearing and settlement. Back-office functions include trade capture, reconciliation, margin monitoring, exception reporting and regulatory reporting.