Which index option is best for trading?
Index option is a type of option contract, the object of which is a parameter (value) multiple of a stock market index. Which index option is best for trading?
Index option: the essence, structure and trading subtleties
From all option contracts the index option is one of the most new and interesting instruments. Its main distinction from other derivatives is its uniqueness and great opportunities for market participants. An index is a general indicator, which shows the average price of shares on a certain exchange. With the help of this tool it is possible to clearly monitor the market situation, its dynamics and peculiarities.
All indices can be classified by several criteria – by calculation methodology, by peculiarities of stock selection, by the number of securities included in the index and by selection criteria (narrow, sectoral, broad and so on). For example, the popular S&P 500 index is an aggregate (generalized) parameter that is based on the stock prices of the 500 largest U.S. companies with maximum capitalization. The NASDAQ index contains more – 5,000 shares traded on the over-the-counter market.
Less “big” is the DAX index (Germany). It is based on the share prices of three dozen local companies whose securities are the most liquid and are listed on the Frankfurt Stock Exchange. A popular index in France is CAC. It is based on the securities of four dozen major companies. No less important for market participants is the FTSE 100, which is based on the prices of hundreds of stocks quoted on the London Stock Exchange.
Options on highly specialized indices based on specific sectors are also in demand. Here we can single out indices which “absorb” share prices of the semiconductor industry and the financial sector. The peculiarity of highly specialized instruments is a small volume of shares in the basis. Broad indices, which include shares of companies from different sectors, are also used. For example, the most famous is considered to be the Dow Jones index. Its full name is Dow Jones Industrial Average. The first publication was held back in 1884. At first, the basis of the instrument were the shares of the largest railway companies.
Options on indices differ from option contracts on other underlying assets, for example currency pairs or futures. They give the holder the right to execute a trade in the underlying asset after a certain period of time and at a price fixed in the agreement.