Exploring PE and CE Meaning in Share Market: CE and PE in the field of Financial Market are option trading terms/jargon. Options trading is a complex segment in the world of trading. This form of trading is difficult to understand even for individuals having a background in Financial Market.
This is because several technical terms are used in this segment. These include ‘CE’, ‘PE’, ‘lot size’, etc. Traders who are willing to enter this segment need to have clarity of these terminologies and their application. While the equity market is known for long-term investing, most traders go for the futures and options market. They try to gain from the market in the short term.
Most individuals are attracted to this market because they believe that quick money can be made in this market. However, they forget that this market has the capability to erode the entire capital that has been invested. Thus, it is of utmost importance to have a strong understanding of this market.
Let us now learn PE and CE Meaning in Share Market and when to purchase and sell them in this article.
Basic Terminologies Used in PE and CE
Before delving deep, the following are critical terms that beginners need to understand:
- Strike price: The strike price means the price at which an Options contract can be exercised. Simply put, it is the price at which an Options buyer will buy or sell an underlying asset if he/she wishes to exercise their right.
- Premium: Option premium means the current market price of an option contract. Therefore, it is the income received by the seller of an option contract (writer) to another party.
- Expiration: When the option reaches its expiry date and gets settled.
Now that we have understood the basic terminologies, let us move on to discuss PE and CE Meaning in Share Market. Since these are quite complex, we have explained these terms individually. Read on to find out!
What is CE?
CE is nothing but a Call option. Precisely, CE is known as Call European. These contracts give the option holder the right, but not the obligation, to buy a stock, bond, product, etc. at a pre-determined price upon expiry.
In short, purchasing a call option will give the trader a choice to purchase a fixed number of shares of that company. If the trader decides to go ahead with the transaction, it will be done at a fixed price (called the strike price) before a particular date (called the expiry date).
The buyer of the call option gains when the price of the underlying asset increases. Therefore, the buyer of the call options predicts that the underlying asset’s value will increase in the near future.
For Example:
- Trader A has a bullish stance on shares of XYZ Company.
- The current Price of One share of XYZ Company = Rs. 850
- Strike Price Bought = 900 CE
- Premium Paid = Rs. 15
- Shares Per Lot = 200
- So, the total premium Required to buy one Lot would be = 200*15 = Rs. 3000
If everything happens as per expectations, and the price of an underlying asset in the cash market goes above INR915 (strike cost of INR900 + premium of INR15), that trader will start making money.
When to buy CE?
Traders buy the call option when they expect that some news can push the stock’s value higher. One option for a trader is that he/she buys underlying asset in the cash market, and holds it for the long term. However, what if the trader wants to make quick money as he/she is opportunistic. A call option is apt in a situation like this. This can be explained with the help of an example.
The spot price of the stock is INR100 and positive news is expected in the market. The trader buys the call option at the strike price of INR110. Now, when the news is released, the stock should go up in the cash market.
When to sell CE?
Traders can consider selling call options when they expect that the upside is limited for the stock or there can be a downfall. This makes the trader indifferent to whether the stock is stable or goes down as long as the spot price does not exceed the strike price.
A quick example to explain this process-
- Consider a security XYZ with a spot price of INR60.
- You can sell a call option on the stock for a strike Price of 60
- The Premium for the same is Rs. 50.
- One contract will fetch you INR500 (INR5 * 100 shares).
- Now upon expiry, if the share price is trading below Rs. 60, then the call Option would expire worthlessly and the seller of the Option would pocket the premium.
- The Break-even point will be INR65. Above INR65, the call seller starts to lose money beyond the premium he/she has received.
PE – What is it in the stock market?
PE is also known as Put Option. More specifically, it means Put European. A put option is the exact opposite of the call option. A put option means a contract that gives the holder the privilege, but not the commitment, to sell a particular underlying security at a specific price and within a specific time period.
The holder of a put option expects that the price of an underlying asset will fall in the near future. The holder will benefit when the underlying asset’s price (i.e., spot price) falls below the strike price.
When to buy PE?
Traders start purchasing the put option if they expect that the spot price of the underlying asset will fall in the near future. Therefore, a trader needs to keep a close watch on the stock’s movement. If the spot price of the asset increases, that trader can disregard the put option. In this case, the loss will be limited to the amount of premium paid.
Say,
- There is the expectation of Bearishness in the Market (Owning to anticipated poor results)
- The current share price of the company is Rs. 1000
- One could express his bearish views by buying a Put Option for a Strike price of 950 (say)
- Premium to be paid = Rs. 10
- Shares per lot = 200
- Premium to be paid = 200*10 = Rs. 2000
If the spot price falls to Rs. 950 per share, the premium of INR10 per share is not covered. Therefore, a trader will make money if the spot price in the cash market falls below Rs. 940.
When to sell PE?
A trader will choose to sell a put option if he/she expects that the underlying security will rise in the near future. Selling a put option permits you to potentially own the stock at both a future date and at a more favourable price. Writing a put option results in immediate income for the writer.
This is because a writer tends to keep a premium if the sold is not exercised by the buyer and it expires OTM. Selling a put option means you have an obligation to purchase the security at a predetermined price from the buyer of the option if he/she exercises the option. One should only enter trades where the net price paid for the asset is attractive.
Say,
- The share price of XYZ Company = Rs. 100
- If you feel that the outlook looks positive, then you can buy 100 shares of the same and it would cost Rs. 10000 (100*100)
OR,
- You could choose to sell a Put Option of the same share for a strike price of 80 expiring 1 month down the line.
- The Premium for the same is Rs 10
- So, Premium Received for writing would be = Rs. 100*10 = Rs. 1000
- So, if the share price drops to Rs. 80 or below, then that has to be bought at Rs, 80, as the Put Option has been sold.
- And if the share price stays anything above Rs. 80, then the premium received would be the income for the same.
So, the Selling put option when you have a bullish stance on the market does the twin objective of income at the time of writing and also improves the entry price of the underlying asset.
Also Read: The Minimum Amount Required for Options Trading in India!
Is selling PE And Buying CE the Same?
Though the intention of selling PE and buying CE is done with the same bullish intention, they are quite different in terms of execution.
While selling PE you become the writer of the option and are obligated to execute the option on demand of the buyer for the premium received. When buying a CE you receive the choice to execute the options contract for the premium that you pay.
As per the margin requirements, the seller of PE requires a huge margin as the loss can be unlimited. On the other hand, the buyer of CE only requires to pay the premium while buying the options contract which is the maximum loss incurred by the buyer.
As per earning money in the option, an individual has more chances of earning money by selling PE as opposed to buying CE. This is because the option greeks favor the option seller more than the option buyer.
In Closing
In this article, we discussed the PE and CE Meaning in Share Market and also when to buy and sell them.
While using options can be risky, there are individuals making huge profits by using these instruments strategically. Traders engage in trading options by using appropriate option-trading strategies. If these strategies are used adequately and in a disciplined manner, most of the time traders can end up making healthy profits.
Selling options is considered an income-generating strategy. However, this strategy comes with unlimited risk if the underlying asset moves against the trader’s bet.
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