InvestorQ : Is it possible to replicate Long futures positions as options and just pay premium?
Priyanka Jain made post

Is it possible to replicate Long futures positions as options and just pay premium?

Answer
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Swati Naik answered.
2 years ago


These are called synthetics. Here, you do not take a futures position but you replicate it with an options position with similar payoffs. A very common synthetic is to replicate a long future by buying a call option and simultaneously selling a put option. Let us look at the chart below to understand how this synthetic works in practice.

Buy Nifty Futures 10,600 and Replicate with Buying 10,600 Call at Rs.20 Plus selling a 10580 put at Rs.20

Nifty Futures

Nifty Spot

Futures P/L

Buy Call Strike

Premium Paid

OTM/ITM

Call P/L

Sell Put Strike

Prem Recd.

OTM/ITM

Put P/L

Synthetic Profit

10600

10000

-600

10600

-20

OTM

-20

10580

20

ITM

-560

-580

10600

10050

-550

10600

-20

OTM

-20

10580

20

ITM

-510

-530

10600

10100

-500

10600

-20

OTM

-20

10580

20

ITM

-460

-480

10600

10150

-450

10600

-20

OTM

-20

10580

20

ITM

-410

-430

10600

10200

-400

10600

-20

OTM

-20

10580

20

ITM

-360

-380

10600

10250

-350

10600

-20

OTM

-20

10580

20

ITM

-310

-330

10600

10300

-300

10600

-20

OTM

-20

10580

20

ITM

-260

-280

10600

10350

-250

10600

-20

OTM

-20

10580

20

ITM

-210

-230

10600

10400

-200

10600

-20

OTM

-20

10580

20

ITM

-160

-180

10600

10450

-150

10600

-20

OTM

-20

10580

20

ITM

-110

-130

10600

10500

-100

10600

-20

OTM

-20

10580

20

ITM

-60

-80

10600

10550

-50

10600

-20

OTM

-20

10580

20

ITM

-10

-30

10600

10600

0

10600

-20

ATM

-20

10580

20

OTM

20

0

10600

10650

50

10600

-20

ITM

30

10580

20

OTM

20

50

10600

10700

100

10600

-20

ITM

80

10580

20

OTM

20

100

10600

10750

150

10600

-20

ITM

130

10580

20

OTM

20

150

10600

10800

200

10600

-20

ITM

180

10580

20

OTM

20

200

10600

10850

250

10600

-20

ITM

230

10580

20

OTM

20

250

10600

10900

300

10600

-20

ITM

280

10580

20

OTM

20

300

10600

10950

350

10600

-20

ITM

330

10580

20

OTM

20

350

10600

11000

400

10600

-20

ITM

380

10580

20

OTM

20

400

10600

11050

450

10600

-20

ITM

430

10580

20

OTM

20

450

10600

11100

500

10600

-20

ITM

480

10580

20

OTM

20

500

10600

11150

550

10600

-20

ITM

530

10580

20

OTM

20

550

10600

11200

600

10600

-20

ITM

580

10580

20

OTM

20

600

10600

11250

650

10600

-20

ITM

630

10580

20

OTM

20

650

10600

11300

700

10600

-20

ITM

680

10580

20

OTM

20

700

10600

11350

750

10600

-20

ITM

730

10580

20

OTM

20

750

10600

11400

800

10600

-20

ITM

780

10580

20

OTM

20

800

10600

11450

850

10600

-20

ITM

830

10580

20

OTM

20

850

10600

11500

900

10600

-20

ITM

880

10580

20

OTM

20

900

The above is a classic example of a synthetic position. The left side pink shaded portion is the long futures position. You can see that the futures profits are linear and the losses and the profits move with the stock price. We are replicating the futures with a synthetic position marked in yellow colour, which is a combination of a long call option and a short put option. If you see the payoffs of the long futures position and the synthetic position, you will find that the cash flow profile is almost the same. While the profits are similar for the futures position and the synthetic position, on the losses side the synthetic position has done better. The advantage of an Rs.20 lower loss is due to the Rs.20 difference between the strike price of the put and the futures (10,600 – 10,580). However, since the call strike is exactly at the futures buy price, the profit profiles are exactly the same. If the put strike too had been Rs.10,600 then the overall profit profile would have been exactly the same. In fact, these are the opportunities wherein you get a lower put at the same price so the payoff becomes better in a synthetic.