Options trading is all the rage in India. Put simply, a financial option confers traders the right to buy or sell an underlying asset, like a basket of stocks, on or before a specific maturity date. Understanding the “lots” is crucial in options trading, as you will have to deal in lots when you trade. But your trading journey cannot begin without understanding the concept of lot size. Option trading derives its underlying value from various assets like stocks, currencies, and commodities. However, the stock exchange trading deals mainly in stocks or share units that form together to make lot sizes.
Lot size typically refers to a standardized quantity of stocks that are traded in a single contract. Understanding the concept of this lot size is fundamental while trading in Nifty and Sensex. If you are wondering where to start gathering your knowledge, don’t worry. We will break down the concept of lot size in options trading for you, including the Bank Nifty lot size. Let’s dig in.
What is lot size?
Lot size in options trading directly means the single fixed bulk of shares that investors buy or sell in a contract. The lot size is the number of shares or units that decide a single option trading. In simple words, the lot size refers to the number of assets or stocks that investors buy or sell as a single unit. Therefore, in options trading, the lot size determines the asset quantity that can be bought or sold.
The standard of lot size is decided by the Securities and Exchange Board of India (SEBI). Usually, the number of shares in a single lot size gets up to 100 like the Nifty 100. For instance, if you buy 2 Nifty 100 lots, it means you have actually purchased 200 shares in Nifty. The Nifty 50 lot size similarly comprises 50 shares. This suggests that during option trading buying or selling Nifty 50 will occur in multiples of 50 shares each time.
The price of one lot of shares is calculated by multiplying the trading price by the lot size. For example, if an investor purchases one lot of Nifty 50 worth rupees 5,000, he/she will have to pay the total value of 250,000. The lot size is widely categorized between Bank Nifty lot size and Sensex lot size.
The Bank Nifty lot size is the trading unit of the NSE Bank Nifty Index, while the stock unit of the Bombay Stock Exchange is known as the Sensex lot size. The Bank Nifty lot size decides how many Nifty stocks or units you will deal with in one contract. On the other hand, Sensex lot size decides how many Sensex indexes you will control with your one contract. The purpose of comprising stocks in lot sizes is basically to maintain uniformity and easy management of them during buying and selling actions.
How are lot sizes fixed for options and futures?
The onus of fixing the lot sizes for companies during options trading lies with the SEBI. Previously, SEBI set the speculative lot size value worth rupees 2,00,000 for the futures and options trading. Setting lot size to this fixed amount is basically done to protect smaller investors from financial losses. However, as retail participation in the stock market increased, SEBI increased the lot size to Rs. 5 lakh in 2015 and then later to Rs. 7.5 lakh in future options trading. Now the Security Exchange Board of India is getting the request to increase the lot size to up to Rs. 10 lakhs, given the rapid growth of risk-tolerant investors in the stock market. Currently, the lot size value of companies lies in between the range of Rs. 5 to Rs. 10 lakhs. SEBI revises this lot size value when it finds that the lot value is diverging greatly from its predetermined range.
Why are lot sizes modified?
As mentioned, SEBI decides as well as modifies the lot sizes whenever it sees a drastic difference between the share value from its determined price range. A significant change in the share value over the course of time is inevitable. SEBI being the market regulator modifies its lot sizes periodically. Let’s understand it with an example. For instance, if a company’s lot size is 1,000 shares, and each of its shares is priced at Rs. 200. Then the lot value of the company’s shares in the option trading will be Rs. 2,00,000. Now if the stock price of that company suddenly increases to Rs. 500, the option lot size total value will quickly increase to Rs. 5,00,000. This will create a large difference between the predetermined lot value by SEBI and the original current lot value of the company. The huge difference prompts SEBI to take some action. It will then reduce the lot size to match it with the preset lot value. On the other hand, in case of a sharp fall in share prices, SEBI acts promptly to increase the lot size of the company to meet its lot value. The purpose behind SEBI’s prompt adjustments is to maintain optimum fairness and consistency in the stock market.
SEBI can also modify the number of lots upon specific investment requests. For instance, if an investor is willing to trade at a larger quantity of contracts than that set by the authority, he/she can request a block trade. Block trade approval will then allow them to trade at their custom lot sizes. A block trade means trading at a larger quantity which is typically executed on the exchange at a customised lot size.
SEBI can modify the lot size of shares also to accommodate new products or revise the existing ones. For instance, if NSE or BSE introduces new futures contracts on a new underlying asset, SEBI will be required to set the appropriate lot size for the contract. Similarly, if an existing share of a company is seeing high levels of trading activities resulting in a sharp increase in stock prices, the SEBI will adjust the lot size to ensure balance in the stock market.
Purpose of lot size
Besides bringing parity and stability to the stock market, there are other purposes that the uniformity of lot sizes serve. Some of these are:
- Risk Management: A fixed lot size helps traders to easily calculate their prospective gains or losses in options trading by multiplying them quickly with the single asset price. This helps them predict how much they are exposed to the risks and helps them make timely decisions. It also helps investors to choose the quantity of shares they want to buy or sell according to their risk-taking ability.
- Liquidity: Lot sizes help in maintaining the liquidity or constant flow of trading contracts in the stock market. Lot sizes enable investors to buy and sell shares without causing drastic changes in the liquidity or total price range of the market.
- Regulatory Compliance: The lot size is set after the approval of the regulatory authority, SEBI. This makes trading safe, secure, fair, and devoid of manipulations.
- Price Quotation: The total value of a trading contract is set by lot size and the underlying price of the stocks. The accumulation of stocks in one lot size makes it easier to quote the total price in quick-action trading activities.
- Standardization: Lot sizes deal with a fixed number of stocks. The Bank Nifty lot size can either be 50 or 100. This standardization of stocks under a lot size eventually aids in making trading easy and effortless.
- Transparency: Lot sizes deliver transparency to the traders. It ensures complete clarity to the trader on how many stocks they are buying or selling in a more comprehensive way.
- Flexibility: Lot sizes offer greater flexibility during options trading. Instead of calculating the price of each share, it becomes easier to calculate it cohesively in lot sizes.
Therefore, the purpose of lot sizes in options trading is to provide uniformity in the overall trading operations.
Conclusion
To conclude, lot size is an essential component in options trading. It directly refers to the number of stocks you are actively buying holding and selling in a single trade. SEBI, the market regulator, decides and modifies the lot size for the National Stock Exchange and the Bombay Stock Exchange. The purpose of lot size is manifold. This unified system helps in reducing the risk of trading. It helps build confidence among investors as they can readily see and manage their stocks cohesively. It brings order and symmetry in the otherwise volatile marketplace. Understanding the Bank Nifty lot size and the Sensex lot size is, therefore, extremely important to trade in the stock market.
