Futures and options are derivative instruments and they derive their value from underlying assets like commodities, stocks, and currencies. The trading of futures and options happens on stock exchanges. The contracts are standardized based on the minimum lot sizes issued by F&O exchanges.
In Futures and Options trading, lot size plays a significant role. Therefore, it is essential to understand the concept of lot size to get a better understanding of Futures and Options. In this blog, we will find out what is lot size in options trading and how different derivative contracts have different lot sizes.
What is a Lot Size?
A lot size is a fixed quantity of shares you can buy or sell as per the contracts. When you hear that a particular company has x number of lot sizes, it simply means that the company has fixed its shares lot.
SEBI or the Securities and Exchange Board of India determines the lot size of indices and stocks traded on BSE and NSE. Nifty Future has a lot size of 50. This means that if you want to buy Nifty Futures, you will have to trade in multiples of 50 as the Nifty lot size is 50.
Similar to Nifty Futures, equity futures also come in a lot of sizes. For instance, Reliance Futures has a lot size of 250. If you buy Reliance Futures which is trading currently at Rs 5500, then the value of Reliance Futures is 250*5500 = 1,375,000.
How are Options and Futures Lot Sizes Decided?
The Securities and Exchange Board of India SEBI is the prime body that decides the lot size of every company involved in trading. The regulatory body had decided on the notional value of Rs 2,000,00 when the Options and Futures trading came into existence.
After deciding the notional value, SEBI decides or fixes the lot size to a particular number that would value more than 2 Lakh when multiplied by the market value. This step was taken to help minimize the losses of small investors who try their hands at Futures and Options.
The apex body SEBI noticed that more lots were purchased by the retail investors. Therefore, it revised the lot value to Rs 5 lakh. New proposals came in front of SEBI to change the lot size value to Rs 7.5 lakh. SEBI also got a proposal to change the value of lot size to Rs 10 lakh so that only the investors with risk-taking ability can trade in Futures and Options.
What leads to Modification in Lot Sizes?
Whenever SEBI notices any major change in the value of shares that would result in significant divergence with the lot values, it revises the lot sizes. For example, if ABC company has a lot size of 1000 and the F&O trading price is Rs 500. In this case, the lot value will be 5,00,000.
Suppose the trading price of a share goes up to Rs 1000. The total value of the lot will become Rs 10 Lakh as per the fixed lot size. This will result in a big divergence from the decided lot value.
In this scenario, the regulatory body will take action to revise the lot size to a lower price. The new price will be a better reflection of the lot value. In the case of a reverse scenario, the lot size will be revised upwards to make it more compatible with the indicative value.
What is the Purpose of Lot Size in Trading?
The main reason to trade in lots in Futures and Options is Standardisation. The standardization can be done in several ways. Futures and Options across indices come with one month, two month, and three-month tenure.
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