Read this article to know the real meaning of volatility and its importance in stock trading. Hedge fund managers and big investors buy put to protect their funds.

Before reading this article I want to clear a confusion:

A lot of traders get confused between Volatility and VIX.

The stock is very volatile means it moves a lot.

The Index VIX is stable means there is not much panic in the markets and if the index is stable. Stable does not mean the Index is not moving. It is moving but not very Volatile.

For high volatile stocks, VIX will be high.
For low volatile stocks, VIX will be low.

For traders volatility is very important.

During April-May 2017 India VIX is hovering at historically low levels. 9-11 is considered low VIX.

You can find India VIX here:

https://www.nseindia.com/live_market/dynaContent/live_watch/vix_home_page.htm

See INDIA VIX as on 18-May-2017:

INDIA VIX 18 May 2017

Today Nifty has fallen so VIX has risen:

NSE 18 May 2017

Over the long period stock markets and VIX are inversely proportional. If stock markets fall, there is panic in the markets and VIX increases. And if stock markets rise, there is no panic in the markets and VIX falls. Like since the last 3-4 months Nifty went from 8000 levels to 9400 levels and India VIX from 17-18 levels to 10-11 levels.

See this graph for proof. You can see that when CNX Nifty rose VIX fell and when CNX Nifty fell, VIX rose.

Nifty vs VIX

Source:
http://www.moneycontrol.com/indian-indices/india-vix-36.html

What hedge fund manages do when VIX is low?

This is the time when options are available at cheaper prices to hedge. For them this is a great opportunity. They start buying puts to hedge their positions in stocks against a fall. How many lots they are willing to buy depends on how much money they are managing.

Do not forget that they manage millions, some fund managers manage billions. This is when they use options to do exactly what they were meant for. To Hedge.

Of course this will not come in the media. This is their personal decision on the job, and they will not disclose it in public.

Another time they hedge their positions is when the markets become very volatile. This is to protect from volatility.

Suppose a bad news comes in, the HNI (High Net Worth Individuals) and fund managers start buying puts.

When a lot of Puts is being bought, the markets gets into fear and the VIX goes higher and markets move lower.

In simple worlds it is profit booking by most investors or put buying by fund managers.

Why do you think when markets move higher, it starts to fall from some point? There is no bad news as on 18-May-2017, but Nifty has fallen? Why?

This is pure profit booking, not a fall because of a bad news.

It is a common mistake by most retail investors. Whenever in media they say the markets are volatile, they think that stock markets are falling. This is not true.

Period from when Nifty went from 8000-9400 is also volatile, same as when Nifty went from 8800 to 8000 levels.

Volatile can be going up or going down. Unfortunately volatility is associated with stock markets going down.

Volatile means fast movement, not necessarily the stock or Index going down.

Learn the difference between market, stop and limit profit or loss orders.

New traders often get confused between market orders, stop orders and limit orders. I am writing this post to clear their doubts.

In short:

Market Orders are the ones that gets executed immediately at whatever price is available in markets.

Stop Order becomes Market Order as soon as the price is reached mentioned in the stop order. Which as soon as the stock reaches the price given in the stop order, it gets executed immediately.

Limit Order has two variables. Maximum and minimum. Order is triggered only if the price reaches the maximum or minimum mentioned. Limit Order will be executed only between the maximum and the minimum price given in the order. If there is a jump in the stock price and the trade does not gets executed between the maximum and minimum price then the orders stays pending.

Explanation:

Market Orders

Stock XYZ trading at 10. Ask (best sell) price is at 10.50 and Bid (best buy) price is at 10.25. A new trader wants to buy the stock and hits Market Order. He order is triggered immediately and he buys the stock at 10.50 – the best sell price at the moment. Why the best sell price? Because he hit market order. A market order to buy is to get the stock at the best sell price, and the market order to sell is to get the stock at the best buy price currently available in the market. Please note that if a buy market order is hit and order is approved to go to the market place, but if there are no sellers then the order is rejected immediately by some brokers or is kept pending by some brokers.

It is advisable before hitting market orders please see the ask and bid prices.

Stop Order

Let us take the same example above.

Stock XYZ trading at 10. Ask (best sell) price is at 10.50 and Bid (best buy) price is at 10.25.

An experienced trader wants to sell the stock at 10.90. Let us assume he is an Intraday day trader and bought the stock at 10.15 and keeps a stop order to sell at profit of 10.90-10.15 = 0.75 points.

Note that a Stop Order not necessarily means a Stop Loss Order. Most traders in India think a stop order is a stop loss order. A Stop Order can be a stop “profit” order or a stop “loss” order depending on what trader does.

In the above case he has put a stop “profit” order.

His stop order to sell the stock at 10.90 will show as pending in his order books.

Trading keeps going and as soon as the bid (best buy) reaches at 10.90 his order becomes a market order and will immediately get executed. The buyer who bid at 10.90 will be given the shares and the sale is complete.

Note that anything above 10.90 can also be triggered, but not below 10.90 as this is the limit to sell by the trader. If lucky, the stock is jumping and someone bids to buy at 11 then the order may get triggered to sell at 11 also.

Limit Order

Let us take the same example above.

Stock XYZ trading at 10. Ask (best sell) price is at 10.50 and Bid (best buy) price is at 10.25.

Let is assume there is some good news in the stock and suddenly there are lot of buyers in the stock and the stock is zooming up very fast.

An experienced trader wants to buy the stock to go with the trend. But he feels at current price of best sell 10.50 which is technically a market price it is quite high so he sets a stop buy order at 10.40 and the order gets filled after sometime.

Now after sometime a bad news hits on the stock and traders started selling the stock. It now starts to go downhill.

The trader who bought the stock at 10.40 panics and keep a stop loss limit order.

As written above limit order has two variables – low and high.

He keeps the stop loss limit order at 10.10 (high) and 9.90 (low).

In other words he orders the system to sell the stock between 10.10 and 9.90. Not below 9.90. Note that any buyer bidding between 9.90 and 10.10 will get the stock but if there is a swing and the stock nose dives to 9.50 then the limit order will remain pending and will not get executed.

If the order was a stop loss order at 10.10 then it will get executed at 9.50 if it nose dives there.
Hope the difference between market, stop and limit order is clear now. If any questions ask in the comments section below.

Since the last one month INDIA VIX is hovering around 10-12 range. This is historically at a very low range. Average range of INDIA VIX is 14-16, above 17 is considered high. Above 22 is very high. Above 30 it is better not to trade.

Right now at 9.35 am, 11-May-2017, INDIA VIX is 10.7050.

On top of that NSE is showing little movement since last one month. See this image below, Nifty has moved very low from 10-April-2017 to 11-May-2017:

This is just 1% move.

When there is no panic in the markets

VIX gets low.
Volatility is low.

Please note that volatility is the speed of movement. VIX is Volatility Index, which shows the market’s expectation of 30-day volatility. When the market is not expected to move much VIX will obviously fall.

Problems with lower VIX and if markets are stable not moving at all

1. Stocks give returns lower than or equal to Fixed Deposits.
2. Option premiums are low not encouraging Option Sellers to Sell as they get less for more risk.
3. Option buyers are at more risk as the lower premiums lure them to buy more options at the same cost. But when markets are not moving at all, the premiums gets evaporated and buyers in hope of a move keep the trade on hold. End results – option expires worthless and all their money goes down the drain. It becomes ZERO.
4. Trading becomes boring. See this, a major investment firm in USA tweeted this:

Same happening in India too as seen in the image above.

Does low VIX a sign of a Storm?

Most of the times it does happen. In stock markets whatever goes down has to come up and whatever goes up has to come down. So if not today, may be tomorrow or later VIX has to rise, and since stocks markets are inversely proportional to VIX, if it rises stock markets will fall.

Rich investors will hedge their portfolio against a fall.

Some mutual fund managers also hedge their funds.

Retail derivative traders who know hedge also hedge, but as most do not know are option buyers. In times like these money of option buyers goes to rich stock investors who hedge their investments, hedge fund managers and smart derivative traders who know hedging methods.

To end, I can only say is if you are an option trader and do not know how to hedge you are doing a big mistake.

Whether it is high volatility or low volatility, high VIX or low VIX, hedging is something that almost always helps you in trading properly and increasing your winning ratio.

My hedging course will help you to learn good hedging methods.

RSI is Relative Strength Index. The name itself gives some idea of what RSI is. Strength obviously refers to what is stronger? Buy or Sell.

Disclaimer: Please understand that RSI or Relative Strength Index is just an indicator of the strength of a certain condition which you will read in this post. It is not a guarantee that if SELL strength is strong it means that the stock will fall, and if BUY strength is strong it means that the stock will rise. Please keep this in mind before reading.

RSI is basically a momentum indicator. Momentum indicator is what is happening at the moment in that stock. It was developed by technical analyst Welles Wilder.

RSI is a indication of what is recently happening over a period of time in that stock. It checks for gains and losses. Every stock has a different RSI.

RSI attempts to know the following:

1. Recent gains and losses over a period of time,
2. Measure of speed and change of price movements, and
3. Try to identify overbought or oversold conditions in the trading of the stock or Index.

What Is The Formulae For Strength Index – RSI?

To know RSI two things are required:

1. Find out average gain during specified time frame.
2. Find out average loss during specified time frame.

Then take out the RS value for each closing day.

RS = Average gain of up periods during the specified time frame / Average loss of down periods during the specified time frame.

Average Loss equals the sum of the losses divided by 14 for the first calculation.
For subsequent calculations multiply the prior value by 13, add the most recent value and then divide the total by 14.

Bit complicated but people who trade on RSI values find it.

The same applies to Average Gain.

This is the formulae to calculate RSI:

RSI = 100 – 100 / (1 + RS)

RSI values range from 0 to 100. The default time frame for comparing up periods is 14 trading days.

Note that RS is the most important value to find. You will need to use an Excel sheet to get it done faster.

But you will have to write the closing rates manually.

You can get this data from your broker.

Or historical close data from NSE website:
https://www.nseindia.com/products/content/equities/indices/historical_index_data.htm

What To Do With Data of RSI?

Traditionally RSI traders do this:

RSI value of 70 or above indicate that a security is becoming overbought – it is a signal to SELL as the trend may reverse.

RSI value of 30 or below indicate that a security is becoming oversold – it is a signal to BUY as the trend may reverse.

Note: Advanced traders do not only depend 100% on RSI indicators, they also have other signals in place to decide the trend.

For example sudden drop may indicate a SELL signal by RS, but the stock may reverse.

Some traders use extreme RSI values to buy or sell. Like they treat 80+ as overbought and 20- as oversold.

RSI is one of the easiest technical tools there to find out direction of a stock and trade, still you can see how complicated it is. Further there is no gurantee of even 70% success, this is the reason I highly recommend Non-Directional, No Technical Analysis trading.

Read how a trader stuck with stock market trading basics and made crores.

Please Read This Disclaimer Before Reading This Article:

Stock market investments are subject to market risk. Please invest carefully after thorough research. This article explains how if you stick to the basics of investing and do proper research, you can make millions or even crores.

Year 2005: I started reading bits and pieces about stock markets, but never traded until 2007. Finally I started trading the stock markets in 2007, though for 2 years had read a lot about stock market investing especially basics. Like other retail traders, initially for first three years I made huge losses, now recovered, fact is even after knowing the stock market basics when I was making losses I did not stick to the basics of stock investing.

My regret is that even after I knew the basics I did not stick to it and lost more than 7 lakhs. You can read the mistakes I did while trading here.

I was yearning to meet a trader since 2007 who stuck to the trading basics and made a lot of money.

As luck would have it I met him via my site, www.TheOptionCourse.com. He contacted me through WhatsApp on April 30, 2017. Here is the screenshot.

A Stock Trader Who Sticks To The Basics Of Trading

What follows is a long and interesting conversation.

What Is Stock Market Trading Basics Dilip?

Well it is just one line which 99% or more traders DO NOT follow. Here it is:

Cut Short The Losing Trades Fast, And Let The Wining Trades Ride As Long As They Can

That one single line 99% traders do not follow instead they do this:

Cut Short The WINING Trades Fast, And Let The LOSING Trades Ride As Long As They Can ON HOPE THAT THEY WILL RECOVER

Next what he said amazed me, because this is only the second time someone called me in the last three years and said he is in profit. The first time was sometime back in 2015, but his profits were negligible. This trader is in huge profits.

This is what he said:

I am also trading in stock since 2001. Currently now in profit of around Rs. 1 crore.

WOW! 🙂

I wish everyone said that, but alas it is not the case. 🙁

I asked him what kind of strategy you follow or it is tips/advisory service?

He said, no he never take tips, but used this strategy:

Book Loss At The Earliest And Carry Profit As Long As Possible

There you go. At last I met one trader who stuck to the basics of stock trading and made a whooping profit.

Rs.1 Crore is not a matter of joke, right?

Obviously my next question was: This is amazing then why my option course?

He said he is keen to learn new things, that is the only reason.

At the time we were having chat, Nifty was around 9300. (30-April-2017)

Now this is what he said that surprised me the most:

Presently carrying 450 (6 lots) nifty @ 7950, but not booked profit till.

I thought strange.

Since I am mostly into options I asked him – you mean 7950 CE (Call Option)?

He said, no I bought Nifty Futures at rate 7950 in November, and rollover-ed till now.

Let us do some simple calculation.

He is not a small trader for sure. 450 means 450/75 = 6 lots.

Here is his profit if he books at 9300:

9300-7950 = 1350 * 75 * 6 = Rs.6,07,500.00

Profit of Rs. 6 Lakh, 7 Thousand, 500 in 5 months.

Average profit per month:

6,07,500.00 / 5 = Rs.1,21,500.00

Rs. 1 Lakh, 21 Thousand, 500 profit per month.

How many people earn this much per month in India from stock trading?

Amazing. This is what stock markets can do if you stick to the rules of trading.

I think it is an art, not a science.

So where do we go wrong?

Panic, Greed, Emotions is the answer.

Panic: We book profits early.

Greed: Not managing our finances well and taking a loan sometimes to trade (bad idea), or trying to make 10% every month from trading. Impossible. See how much this greedy trader lost and this trader lost 2 crores.

Emotions: In hope that losses will recover, we let the losses ride.

All of the above combined, traders keep doing mistakes time and again.

He fixes loss or takes a stop loss at a certain percentage but profits, he did not tell exactly where he takes.

This stop loss percentage can be flexible depending on the trade taken but it should be fixed before the trade is taken, not after.

I agree that this trader does good research before selecting scripts and I think he is a naked futures trader. Naked trading means he does not trade with a hedge. I personally feel this is not good for most traders. But if you are an exceptional trader with proper planning and full control over your emotions then it is fine on some percentage of your account not all.

Look at his today’s (04-May-2017) profit. Rs.67,000 profit in one day, isn’t this amazing?

Your Results May Vary

Yesterday one of my free subscriber whatsapp me that this person is FAKE as Petro Eng does not have futures trading.

I think it is misunderstood.

He traded in CASH not Futures and this was an Intraday trade.

Though I personally do not like Intraday trading looks like this person is good at his job.

If you are so good then fine, but if you are not then please stay away from Intraday trading.

Intraday trading has the power to suck you in, but for most traders it is a lose all trading game.

My advise is stay away from intraday trading.

Look how this traders lost 40 lakh trading intraday.

And he is the father of all losers in intraday trading – he lost 2 crores.

Read the above and I bet your bones will shiver.

If you are losing money trading intraday, stop trading today

I respect your money and it is completely your choice to do my course or not. But as you can see a lot of traders are doing very well after they did my course.

Positional hedged trading has a lot of benefits like low tension, no need to watch markets every second like intraday traders do, and it has the benefits of compounding which intraday day trading lacks.

In this post, read the mistakes to avoid day trading or Intraday equity, options and futures trading. Also read other intraday mistakes traders do.

Any novice equity investor or trader does these mistakes when they start investing or trading the stock markets. Even I have done these mistakes. Hell I lost 7 lakhs. Though 7 lakhs looks a small amount, percentage wise, it was 99% of my savings. I had to take a Rs. 1 lakh loan to survive at a time when we were expecting our first child and looking for a bright future. Life was hell at that time. Thank God things have improved now.

You can read about the mistakes I did in stock trading here.

Day Dreaming To Instant Riches

Just because brokers give a lot of margin on Intraday day trading does not mean you should take benefit for it.

Since I get a lot of calls from novice Intraday traders I know what most of them are doing. They want to start with Rs.10,000/- and want to make Rs.50,000 a month. That’s a return of 500% a month. No doubt why they get trapped seeing ads of tip providers who tell them to make Rs.10,000 everyday by investing just Rs.5000. Avoid these traps to save your money.

Please understand these kind of returns are impossible to get over long term. May be ten or twenty days in a year you may make 200% to 300% return in a single day, but over a year which has 250-252 trading days, you will be in huge loss, if this is what you are trying.

Do not try to attempt to make 100% return in a day or a month. You will fail.

Stock trading is a business. There is risk involved and stock trading is NOT Get Quick Rich business. Even traders like Rakesh Jhunjhunwala, who is worth more than Rs.220 crore, did not try to make 100% a year. These great traders know there is no point in running after something which is impossible to get.

They make money slowly but compound it over long time to create huge wealth. Great traders and investors are very patient and know it will take years to create a lot of money.

Lesson:

Stop day dreaming to create huge wealth in one day, month or even a year

Making Wrong Sense Of The Margin Requirements

Margin given on Intraday trading under MIS (Margin Intraday Square-off), is more than margin given for overnight positional trading under CNC (Cash N Carry). This is the reason traders try to take too much leverage on intraday day margin given.

This is pure greed psychology. Mindset of a Intraday day trader is – we will make more on very less money and very fast in a single day itself.

In real world, there is no business in the world that will generate too much money with too little money. If this was possible Mukesh Ambani would be an Intraday trader. Why work so hard to make money? For such a rich person like him, he can invest one hundred crore everyday, and make two hundred crore everyday. Do you really think its possible?

If this was possible, in this world there would be no Doctors or Engineers if Intraday day trading would have resulted 100% return everyday.

The Real Reason Why More Margin Is Given In Intraday Day Trading

First let us see if it is true that more margin is given in MIS (Margin Intraday Square off) trading.

See this image:

MIS Intraday Equity Margin India

This image was generated real time at 10.30 am, on 28-04-2017.

As you can see for positional trading CNC, there is only 1 time margin, but for MIS (Margin Intraday Square off) trading, 14 times margin is given.

CNC Margin Calculations:

Assuming Reliance Ltd. is at 1400, cash available with trader is Rs.10,000/-.

So total he/she can buy: 10,000/1400 = 7 Shares.

MIS Margin Calculations:

For MIS intraday margin the trader is allowed 14 times margin.

So total he/she can buy/sell: (10,000*14)/1400 = 100 Shares.

Do not know why the calculator is showing 102, but that is not important. What is important is that for Intraday trading 14 times margin is given.

Here is the reason why more margin is given in intraday day trading by brokers:

The trade will be automatically closed by the system at around 3.15 – 3.20 pm, even is the trader forgets to close the trade.

Historically it is seen that in one trading session a stock rarely moves more than 5%.

Let say at 9.30 am the trader bought 100 shares of Reliance Industries Ltd. for intraday trading.

Price of the stock: 1400. Margin blocked: Rs.10,000.00

At 3.00 pm the stock fell 5% and is at 1330.

The trade is closed in panic by the trader.

Total loss:

Buy price: 1400 * 100 = 1,40,000.00

Sell price: 1330 * 100 = 1,33,000.00

Total Loss: 1,33,000.00 – 1,40,000.00 = Rs. -7000.00

Money blocked was 10,000.

After the loss money remaining in the account:

10,000- 7,000 = 3000.

As you can see even in a huge downfall of 5% intraday, the money lost was well within the margin required for trading.

Please note that for more volatile stocks less leverage is given.

As I can see, for Bajaj Financial Service Ltd., only 3 times margin is given for intraday trading.

Brokers see historical movement data intraday for any stock, then decide the margin to be given for intraday trading.

Less volatile stock, more margin. More volatile stock less margin.

Please note that for CNC (Cash n Carry) positions, all stocks get 1 time margin only, because for CNC positions the stock has to be delivered to the buyer. For CNC (Cash n Carry) positions, shorting a stock is not allowed. Here are the reasons why.

For option buy positions, full margin is blocked. It does not matter if it was closed intraday or the trade was taken overnight to next day or until expiry.

For option selling, and future trades buy or sell, the brokers may block different margins for intraday and overnight positions. It is obvious that for intraday less margin is blocked, and for overnight positions more is blocked.

So the real reason why for intraday day trading (MIS) less money is blocked is not because that the traders can make more money, but because that there is less risk for the brokers.

Unfortunately most intraday traders fall for greed and try to make too much money from too little money, forgetting that if they can make 14 times the money, they can also lose 14 times the money.

If profits are calculated on the final price of buy or sell, then the loss is also calculated on the final price of buy or sell

Keep this in mind before taking any intraday trade.

That is the reason I have stopped trading intraday trading, and have become a complete conservative option trader. Right now while writing this at 11.09 am on 28-Apr-2017, I know the hedge trade is protecting my capital, so I am not much bothered about my traders. At 2 pm I will see. Do not forget that it is all positional trading, there is no need to keep watching the markets every second like intraday traders.

Learn how to calculate Annualized Volatility and know if it is worth to know about it.

A lot of traders who have done my options trading course, want to know how to calculate Annualized Volatility.

Volatility is very important factor in option trading. This is the reason many traders want to calculate Annualized Volatility, basically to try to figure out future prediction of Volatility.

Please understand that Volatility is different than Volatility Index. Volatility is the percentage of movement of a stock or Index, Volatility Index is the stock market’s expectation of 30-day volatility. Volatility Index is a complex formulae and is constructed using the implied volatilities of a wide range of options available to be traded in that Index. For example Nifty Volatility Index is based on INDIA VIX which can be found here:

https://www.nseindia.com/live_market/dynaContent/live_watch/vix_home_page.htm

Annualized Volatility is partly Technical Analysis. Basically before traders want to take a trade they would like to know if the stock will move and in what direction. If right they make money, if wrong they exit with a stop loss.

Historically Stocks are more volatile than Stock Index. The reason is stocks are individual entity but Index is a group of stocks. However Annualized Volatility can be calculated on both Stocks and Index.

What Is Volatility?

Volatility is the measure of variation of a stocks movement over time. Over time is not specific but general depending on what is the traders view and what trade he is taking.

Some stocks are too volatile intraday, but some stocks are not so volatile. For example stocks like HDFC Bank Ltd, are not so volatile intraday, but stocks of smaller companies are very volatile intraday, like GMR Infrastructure Ltd.

HDFC Bank move on 24-April-2017 at 9.40 am – markets are open for trading:

GMR Infrastructure move on the same day, 24- April -2017 at 9.40 am – markets are open for trading:

Similarly it is has been observed that some stocks are too volatile over one year time, but some stocks are not so volatile over one year time. For example stocks like HDFC Bank Ltd, are not so volatile over one year, but stocks of smaller companies are very volatile over one year, like GMR Infrastructure Ltd.

HDFC Bank, one year move from May 2016 to April 2017 at 9.41 am – markets are open for trading:

GMR Infrastructure, one year move from May 2016 to April 2017 at 9.40 am – markets are open for trading:

This data is very important to know Annualized Volatility and take a trade based on it.

How To Calculate Stock Volatility

For this we will need historical closing prices of the stock or Index.

Here you will get historical closing price of NIFTY 50:
https://www.nseindia.com/products/content/equities/indices/historical_index_data.htm

You can select the time period and get the closing.

Here is the Historical Data for NIFTY 50 from 01-04-2017 to 24-04-2017:

Historical Data for NIFTY 50 from 01-04-2017 to 24-04-2017

You will get these data there:

Date, Opened at, Highest Price for the Day, Lowest Price for the Day, Closed at (this will be required for calculating Annualized Volatility), Total number of Shares Traded, and Turnover in Rs. Crores.

To calculate Annualized Volatility we need the closing price for the day only.

Here is closing price of Nifty from 01-Apr-2017 to 24- Apr-2017. Note that the percentage change in closing price is calculated like this:

Daily % Change = (Current Closing Price – Yesterday’s Closing Price) = XX.XX
XX.XX / 100 = Daily % Change

In other words, subtract yesterday’s closing price from today’s closing price and then divide the result by 100.

Anyone good in making Excel sheets will be able to make them at home. In an Excel sheets the calculations will be automatically done once the formulae to calculate the percentage change is copy pasted in all columns.

Please note that to calculate Annualized Volatility I have taken out the closing price of 03-Apr-2017 because we need the previous day closing price. We have not taken out that price as somewhere it has to start and end.

[table id=2 /]

We have got the most important information. With this information we will find out the Volatility of Nifty from 01-04-2017 to 24-04-2017. Please note that to find out the Annualized Volatility you will have to take out one year closing prices. However since here I am just trying to explain how to find out Volatility, I am taking out only few days of closing prices.

To take out Volatility over a time we need to find standard deviation formula. You can use Excel to make this process easy. In simple math, Standard deviation is the degree to which the prices vary from their average over the given period of time.

See the image below, in Excel, the formula for standard deviation is =STDEV(from col no:to col no). The col no is the column which is used to keep the percentage change from the previous day.

See the image below:

Standard Deviation Nifty April 2017

As you can see I have used the formula for standard deviation, =STDEV() and got the standard deviation as 0.49%.

This is daily standard deviation of Nifty from 01-Apr-2017 to 24-Apr-2017. Like this one can take out standard deviation of one year.

Calculating Annualized Volatility

We have got the standard deviation. To get the Annualized Volatility we need to multiply daily standard deviation by the square root of 252.

Why 252?

Because in one year almost 252 are trading days. Rest are weekends or holidays when the markets are closed.

This can be done in Excel. The formula for square root in Excel is =SQRT().

Square root of 252 is 15.87.

15.87 * 0.49 = 7.77%.

Based on the price movements from 01-Apr-2017 to 24-Apr-2017, Nifty Annualized Volatility is 7.77%.

Note: For very correct Annualized Volatility it is recommended take at least last 60 days closing. The Annualized Volatility is no guarantee that in one year the stock or Index will move only that much in a year, but it gives a rough idea that most of the time that will be the most movement. In our case 7.77% is Annualized Volatility of Nifty based on the period of Volatility from 01-Apr-2017 to 24-Apr-2017.

Can We Tweak This Data?

Yes Volatility can be found out for any time period. You can calculate Monthly Volatility or Weekly Volatility.

Traders looking to trade Bank Nifty Weekly Options can find out Bank Nifty Weekly Volatility.

For Monthly Volatility, get one months volatility, and multiply the daily volatility standard deviation by the square root of 21.

For Weekly Volatility, calculate the weekly percentage change for at least 5 weeks, and take the standard deviation of that data. To Annualize the weekly volatility, you will need to multiply by the square root of 52. One year has 52 weeks therefore multiply by the square root of 52.

Annualized Volatility Calculation Is It Worth It?

It is a mixed answer. Like I said Annualized Volatility is no gurantee that the stock will move only that much, however it gives a rough idea about the stocks movement. Some traders do take a trade based on Annualized Volatility. However there is no historical data if trades based on Annualized Volatility make more than 50% times profit.

Today we will learn about Stock Auctions done if trader did shorting of stocks without holding them.

Before reading this article I request you to read why an auction is done which is written in this article: Shorting Stocks Can Be Dangerous If You Do Not Have In Your Demat Trading Account.

In short auction of stocks is done if a trader shorted or sold stocks and left it overnight without closing the trade Intraday, and he/she does not have the stocks to sell in his/her demat trading account.

In that case the market makers are obliged to deliver the shares to the trader who paid money to buy the shares. To get the shares from market Auction is done.

What Is An Auction Market

An auction market is a place where members of stock exchange can participate.

Membership of the Exchange/ NSCCL is open to corporate entities, limited liability partnerships, partnership firms and individuals who fulfil the eligibility criteria laid down by SEBI and NSE.
Source NSE Website: https://www.nseindia.com/membership/content/cat_of_mem.htm

Here is the eligibility criteria to get Membership of the Exchange:
https://www.nseindia.com/membership/content/eligibility_ctra.htm

Auction market is a special market place conducted between 2 and 2.45 pm on all trading days if required. Why I am saying if required is that a lot of brokers now-a-days do not allow these kind of short positions overnight. These kinds of trades are either rejected straight away or allowed only in the MARGIN INTRADAY SQUARE-OFF (MIS) mode, that makes sure the trade is closed automatically by system between 3.15 to 3.20 pm even if the trader does not closes or forgets to close the trade.

Therefore there may be days when the auction is not required as no trader was able to sell stocks and hold overnight without holding them.

But there can be instances when a trader does MIS trade and short sells a stock that goes up and hits short circuit. When short circuit is hit, trading gets halted for the rest of the day for that stock.

If trading gets halted there is no way the trader can buy back and close the trade the same day. Even system cannot do that as trading is halted and when the system triggers to buy back the stocks the same day, they will be rejected by the exchanges.

Note that system does not know trading is halted or not, it will do its job but the exchange will reject the trade.

These kinds of shares go for auction if trade was complete.

The Process of Auction Market

As we have discussed members of stock exchange meet at a place between 2 and 2.45 pm do sell shares of stocks that were not closed the day before by the seller who did not have shares in his account to deliver to be sold on T+2 day (Trading Day + 2 Days).

T+2 because in India whenever a buy or sell of shares is done it is done on the second day after the trading day.

For example suppose Trader A bought shares of XYZ company on 17-April-2017 (Monday) and paid in full.

17-April-2017 (Monday), becomes the First Trading Day or T Day.

18-April-2017 (Tuesday), becomes the Second Trading Day or T+1 Day. Shares will still not come in his demat trading account.

19-April-2017 (Wednesday), becomes the Third Trading Day or T+2 Day. Shares will come in his demat trading account this day.

This in short in India is called T+2 Day or T2 Day.

Same is the case with selling shares.

Now coming to the process of Auctions.

At 2 pm the next day when shares were sold but cannot be delivered will be Auctioned. No other shares will be auctioned, as for them it is not required.

Exchange will tell the name of the shares, total number of shares required to be delivered that were short in the trading account but not present and fix a price band.

This price band is very important. Suppose share of company XYZ that needs to be auctioned closed on the previous day at Rs. 100. Exchange will fix the price band of auction at 20% up and 20% down.

So a seller who has the shares can offer to sell the shares at 20% up at Rs. 120.
Or they can sell the share at 20% down at Rs. 80.

It is obvious the sellers will demand the upper price band only. Why would they lose an opportunity to make money?

Exchange has no other option but to buy these shares from the seller at 120 and deliver the next day to the person who bought the shares from the trader who sold but cannot deliver.

It does not end here. Who did the mistake here? The buyer or the seller? It is obvious the seller had no right to sell the shares without having the shares. It was fine if he closed the same day, but had no right to carry forward a promise of delivery of shares without owing the shares.

This is the reason why stock exchanges will levy a penalty of 0.05% on the value of stock per day. This is known as “Auction Penalty”.

Calculating The Auction Penalty

Trader A shorts 100 shares of company XYZ at 95. The shares closes at 100. Trader A does not buy back the shares and unfortunately does not have shares in his demat to deliver the shares on T+2 Day.

Share Auction for XYZ company for only 100 shares is held.

Exchange buys the shares at Rs. 120 – the upper price band limit.

Trader A had sold the shares at 95. So he gets Rs. 95*100 = Rs. 9,500/- credit in his demat account.

But he did not deliver the shares, so has to pay a Auction Penalty.

Exchange bought the shares at Rs. 120. Cost to buy the shares:
120*100 = Rs. 12,000/-

Difference between sell and buy:
9,500-12,000 = -2500
Plus .05% Auction Penalty.

So Trader A who sold the shares but did not buy back and did not deliver will get Rs. 9500/- but will have to pay Rs. 12,000 + 05% Auction Penalty.

Therefore net loss Rs. 2500 + Auction Penalty of .05%.

This is the reason please be careful when you sell/short stocks if you do not have them in your demat account.

One way is to learn hedging to reduce the loss.

See this trader did the strategy in 2 trading accounts and both resulted in profits:

Or if you are not a derivative option or future trader, then invest in the right stocks for the long term.

Read to know why shorting stocks can be very dangerous if you do not own the stocks in your Demat Trading Account.

I have done it myself. I mean shorting stocks without having them in my Demat account, leaving them overnight and have faced problems.

Well things have changed for the better but not sure how many brokers do not allow that to happen.

In short here is the dangerous trade:

1. A trader shorts shares of XYZ company thinking that it will go down. He does not own them in his trading demat account – just shorts them as a trade.

2. This trade is not done as MARGIN INTRADAY SQUARE-OFF (MIS), but as a normal trade which can be left unclosed overnight.

NOTE: This is a very important information. When I did this mistake in 2007-08, a lot of brokers allowed shares to be sold without in their clients demat account and NOT on a MARGIN INTRADAY SQUARE-OFF (MIS), but CASH N CARRY (CNC) or NRML a delivery based product or a product that a trader can carry forward overnight.

Today in the year 2017, things have changed. A lot of brokers do not allow shorting of stocks if not there in their clients demat account, in CNC or NRML mode, but this is allowed only in the MARGIN INTRADAY SQUARE-OFF (MIS) mode. This means even if the trader forgets to close the position, the MIS system will close the position by 3.15 to 3.20 pm to make sure this position is not carried forward the next day.

This is a good move to save traders from high risk trades.

MARGIN INTRADAY SQUARE-OFF (MIS) is NOT a delivery based trading. It is normal cash to cash trading in a single session, so no stocks are involved. For example Mr. A sells stock of XYZ company at 50 spot price at 10 am, and buys it back at 48.60 at 2 pm – there is no delivery required to be given by Mr. A for the stock as the trade was finished the same day. In fact if Mr. A sells that stock even if he has the stocks in his demat account and buys it back the same day, the stocks will not go out from his account as delivery is not required.

3. The trader does not buy it back as the stock went up and the broker too does not close the stock then there is a problem.

What Is The Problem?

The problem is that Mr. A had shorted the stock without owing them and it has to be delivered to the trader who bought it from Mr. A. But the problem is Mr. A does not have the stocks in his demat account.

Here is the problem. From where the market exchange will bring the shares to be delivered to the trader who bought them?

Answer is Auction the next day.