EXPLORING ARBITRAGE OPPORTUNITY IN SELECTED NSE STOCK OPTIONS USING PUT-CALL PARITY

Abstract

The put and call prices have a deterministic relationship, irrespective of the investor demand for the option, if both options are purchased on the same underlying asset and have the same exercise price and expiration date. The theoretical put-call relationship can be developed to determine a put (call) price for a given call (put) price and other relevant information (for example, current price of the asset, exercise price, risk-free rate and time to maturity). If the actual call or put price is different from the theoretical price, there exists an arbitrage opportunity and an arbitrageur can set up a risk- less position and earn more than the risk-free rate of return. The extant project has been undertaken with an objective to identify if the put-call parity relationship exists in case of selected NSE stock options. If there is a violation of this relationship what are factors responsible for this violation.

Various factors that were studied to determine the quantum of arbitrage profits were: i. the extent to which options are in the money or out of the money, ii. if arbitrage profits occurred in the case of in the money options or out of the money options, iii. time to maturity of the options, and iv. The number of contracts traded.

It was found that violation of put-call parity relationship did take place for many options of selected NSE Stock options. It was also found that arbitrage profits are more in case of deeply in the money or deeply out of the money options. Arbitrage profit increase by increase in time to maturity. As expected the quantum of arbitrage profit reduced significantly with increase in liquidity. Out of the money put options led to more arbitrage profits where there were less liquid options. Out of the money put options created more arbitrage profits for not so near the month and far month contracts. Number of contracts traded were positive and significant for high liquid options. Number of contracts traded were negative and significant for deeply in the money or out of the money option contracts. The gap between Spot price of Stock and the Strike price of the NSE stock option is directly proportional to the arbitrage profit.