Gilt Options Market
"written" by option "grantors" who
are large institutions and stockbroking firms. They write
and sell options because, in the event that the option is
not exercised, they keep the option price as a profit. In
practice, many options are written "naked".
In other words, in the case of a call option, the institution does not own the underlying stock at the time they write the option. If the option contract goes against them (i.e. into the money), they purchase the underlying stock so they will have it when the option is exercised.
This is known as "hedging". This ensures their losses are limited.
The gilt market is so liquid and heavily traded that they have no fear of being unable to obtain the stock.
In practice very few options are actually delivered (fewer than 10 percent) because most are written "naked" and if they are exercised, they are immediately sold. In effect only the option buyer's profit changes hands - if he does not exercise, then the grantor profits by the purchase price of the option.
It is worth knowing that the options market has standardised option contracts which are pitched at 0,25 percent intervals with fixed expiry dates - February, May, August and November.
These contracts trade in the market independently of the underling stock . In addition, many options are written and traded on an ad hoc basis in what is known as the Over-The-Counter (OTC) market. Generally, there is a better market for standardised option contracts than for those in the OTC.
The options market is part of the JSE and has an open-outcry market floor very much the same as the share market. There is, however, a great deal of stock that changes hands outside the floor. This part of the market consists of a loose network of dealers, brokers and institutions who keep in touch by phone.
One final word of caution. Options are far more highly geared than shares. It is difficult to lose 100 percent of an investment in shares. This can happen easily in the options market.
And the options market is what investors know as a "zero-sum-garre" - for every winner there is an exact loser. Unlike shares, options do not receive dividends or interest accruing to the underlying instrument. This means they cannot strictly be said to be "investments".
They are an exciting speculative instrument and can be useful to hedge your portfolio, but you should participate in this market with a small percentage of your total capital.