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Understanding Call Option in a Simply simply way

Understanding Call Options using Ramlal the Kirana Store Owner’s example

After Ramlal, the Kirana Store Owner signed up a contract with his customer, Seema he realized the power of such contracts.

Now he has another idea which he believes is called Call Option by Stock Brokers.

His idea is as explained below:-

1) Ramlal has a stock of 100 packs of Maggi priced at Rs 10 each

2) The demand for Maggi has been sky rocketing and there has been talk in the media of an impending Price Hike.

3) This situation gives Ramlal an idea. He tells one of his favorite customer Shilpa that since she has been a regular customer of his, he wishes to reward her with a scheme that would fix the price of Maggi for the next 6 months

4) Under the Scheme he will fix the Price of a Maggi Pack at the Current Price of Rs 10 each for the next 6 months whatever be the amount of Price Hike

5) For this service, he would charge Shilpa a token amount of 25 paise per day equalling to Rs 45 for a period of 6 months or 180 days.

6) Shilpa realizes that for a mere Rs 45 she was getting Price guarantee for 6 months.

7) Shilpa expects that due to the shortage, prices most likely would go up by Rs 2 per pack which means an additional expense of nearly Rs 360 in 6 months.

8) As against Rs 360, this scheme appears cheap at Rs 45. So she confirms her participation with Ramlal.

9) Ramlal on the other hand is happy as well because he strongly believes that the price won’t go up and will continue to be Rs 10 per pack of Maggi

10) So he believes this scheme gives him the opportunity to earn an additional income of Rs 45 in 6 months. He can multiply his earnings by selling this scheme to several of his loyal customers.

11) This scheme of giving Shilpa “the Right to Buy” at Rs 10/- is nothing other than a “Call Option”.

12) The Rs 10 price at which she has a right to buy is the “Strike Price”. The Rs 45 for 3 months that Ramlal charges is the Premium for the Call Option.

Hope the above example has clarified the concept of “Call Option”, “Strike Price” & Premium.

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Understanding Derivatives in a Simply simply way

Understanding Derivatives the Simply Simple way.

1) There is a shopkeeper Ramlal selling Maggi.

2) Seema loves her Maggi & daily visits the shop to buy her packet of Maggi for Rs 10.

3) She is obviously very money conscious.

4) One day while gossiping with her friend Subhash, she is informed that price of Maggi may go up substantially in the next one year.

5) Next day she tells Ramlal that she would would promise to pay next years Maggi supply of 100 packs at the rate of Rs 12.

6) Ramlal thinks to himself that the idea is not bad at all because be can ensure himself a profit of an additional Rs.200.

7) So he provides her coupons of Maggi which she can use next year.

8) Seema pays Rs 100 x 12 = Rs 1200 and goes home.

9) But as Ramlal is walking home he thinks to himself that in case Maggi prices go beyond Rs 12 after a year then he would incur a loss.

10) But being a super intelligent man he gets an idea to protect his interest.

11) He decides to buy 100 packets Maggi for Rs 10 today for Seema and store it in his shop.

12) One year passes by and Maggi prices do go up as Seema had anticipated.

13) The price which was Rs 10 a year ago now is Rs 14.

14) Seema is very upbeat as she enters Ramlal’s shop with her coupons.

15) She expects Ramlal to be in a foul mood as he would be losing Rs 2 (Rs 14 – Rs 12) × 100 = Rs 200

16) But to her astonishment, Ramlal is seen smiling which Seema cannot understand.

17) When Seema asks for her order, he instructs his employee to go to the store room behind the shop and get the 100 packs of Maggi purchased a year ago on her behalf Seema.

18) Thus Seema leaves happily thinking that she has made a clean Rs 200 (Rs 2 per packet × 100 packets ) profit.

19) Ramlal on the other hand also smiles because the 100 packs he sold Seema were purchased by him for Rs 10 one year ago which he sold for Rs 12. Thus he too made a clean profit of Rs 200 (Rs 2 × 100 packs of Maggi)

20)This situation clearly ended in a win win manner and left both Ramlal and Seema happy.

The key learnings from this story are as under :-

1) The above example explains the principle on which Arbitrage Funds work. In this example Ramlal is the Arbitrage Fund. As Ramlal safeguarded his interest and ensured that he will not be at a loss in the same way Arbitrage funds are very safe.

2)This example also explains the meaning of Derivative Instrument. The coupons which represented 200 future Maggi packs represent what we call as derivative instruments because it’s value is derived from the value of the underlying Maggi packs

3) This example also explains how derivative instruments can be used as a hedging tool. Althought Ramlal sold 200 packs of Maggi for a future date by way of giving Seema the coupons, he hedged himself by buying 200 packs Maggi and storing the same for future use.

4) What Ramlal did was he sold a future product without owning it. We call this kind of selling as “going short”. Instead of selling product he sold the coupons which over here represent a derivative instrument.

5) However one must appreciate although he sold without owning the product it was his obligation to honor his word. He had two choices.

a) One was to purchase from the current market at Rs 14 and supply it to Seema at Rs 12. This kind of a situation is called as “Naked position” where your losses are not hedged or protected.

b) The second option was to hedge his position by buying 200 packs of Maggi and storing it for Seema at the same time he sold the Coupons (Derivative Instrument). Your short stands covered when you hedge and this is called short covering.

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Some Investment Principles drawn from Gandhian Philosophy.

Happy Gandhi Jayanti

1) Wealth is but the product of a man’s behaviour.

2) Change your asset allocation to see the change you want to see in your wealth

3)The weak can never be wealthy. Investing is an attribute of the strong that takes them on to the path of wealth creation.

4) I will not make any journalist walk through my mind with their dirty thoughts on investing

5) Wealth does not come from intellectual capacity. It comes from indomitable will power. The ability to stay invested despite the surrounding volatility

6) An ounce of patience is worth more than a tonne of preaching. Just be calm when others are not.

7)Change your behaviour with changing markets to stay in control

8)See the good in volatility and make volatility work for you

9) Without action you aren’t going anywhere. Take action, invest more, reallocate your assets.

10) Take care of this moment. This is the moment that will make you wealthy

11) Be authentic, be your true self. Don’t get influenced by others. Everyone is a slave of his or her fear and greed.

12)Continue to grow and evolve by showing patience, knowledge and conviction.

13) A “no” uttered with deepest conviction is better than a “Yes” uttered merely to please. Say “no” to redemption

14) Glory lies in the investment journey ; the path to wealth creation. Enjoy the journey; the plains, the hills, the slopes, the ascent and the decent.

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Compounding stories


He had Rs 10 lac lump sum and was capable of 1 lac as SIP.He was to invest for 15 years. All was planned and decided.But like 98% people, he delayed first by one year and then by another.

Then his Financial Advisor who also happened to be his sister yelled at him that he had already lost Rs 2.2 cr due to his laziness.He did not realize what hit him. His entire body jerked and he felt shaken like he had never before and started his investment immediately.Because it was his sister, she could scream at him. What about the others???Every Financial Advisor cannot yell at you or shake you from your slumber.At the end of the day he has a business to do and a house to run. He needs to be polite and courteous.Please take the polite and courteous advice of your Financial Advisor as a jolt and wake up from your slumber.Delay is the only roadblock you encounter in the financial planning journey of your life.
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No “Chinta” Economy

A chauffeur aged 30, with monthly expenses of Rs 20000 and planning to stop working at 60 can maintain his lifestyle till he drops dead at 80 by doing an SIP of Rs 2500 till the age of 60.

This is India, a galloping economy presenting opportunities to all; the rich and the poor. All you need to do is start early and provide time to your little Investment.

Often we hear people living in first world nations proudly claim that their government looks after it poor.

They call it dole, the benefit paid by the state. But is the dole good enough. I seriously doubt; certainly not good enough for maintenance.

Walk along the streets of London and Scotland where you’ll never miss the sight of smart looking people sitting on pavements with a begging bowl and a request message next to it.

In this context, we often curse our government for not providing this kind of support.

But why beg when even the poor can earn a respectful living. When your own money can support you, why should you seek help from another.

People don’t realise the power of compounding. People don’t realise a little is enough. People underestimate. People worry worry and allow time to leak away.
All that they need is a little education and time to live a life of respect.

Our economy is our biggest support system. It belongs to all Indians; our birth right.

There is a lot of wealth that India can make for us.

All we need is to take out some ‘time’, sit with a financial advisor and learn how this happens.

There is only one risk in life; the risk of staying uneducated.

Take your SIP and leave your ‘chinta’ behind.