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Options arbitrage is a trading strategy that gains from small, systematic price disparities between related option contracts and underlying assets. It focuses on leveraging discrepancies from theoretical pricing rather than predicting market direction. The most prevalent arbitrage strategy is based on put-call parity, which specifies the pricing relationship between calls, puts, and the underlying.
Key Takeaways
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Options arbitrage focuses on mispricing between calls, puts, and futures, not price prediction.
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Put-call parity forms the basis for identifying and structuring arbitrage opportunities.
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Combining options and futures helps create balanced positions with defined outcomes.
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Returns are usually limited but consistent when pricing relationships move out of alignment.
What Is Options Arbitrage?
Options arbitrage refers to trading strategies that aim to benefit from pricing differences between related option contracts or between options and the underlying asset. These opportunities arise when option prices move out of alignment with their theoretical values. In most cases, the expected returns are small, but the positions are structured to limit market risk.
Options arbitrage generally appears in two forms. The first involves mispricing between call and put options with the same strike price and expiry, which is explained through put-call parity. The second occurs when option prices diverge from the value implied by the underlying asset’s price and moneyness.
Put-call parity is a pricing relationship that links call options, put options, and the underlying asset. When this relationship does not hold, it may indicate an arbitrage opportunity, allowing traders to balance positions and capture the price difference without relying on market direction.
Also Read: What is Call Option and Put Option?
Key Benefits of Options Arbitrage Strategies
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Low market exposure: Options arbitrage focuses on price mismatches rather than market direction, which helps reduce exposure to sudden price movements.
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Defined risk structure: These strategies are built using offsetting positions, allowing traders to manage risk more clearly compared to directional trades.
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Consistent return potential: While individual profits are usually small, arbitrage aims for steady and predictable outcomes when pricing differences appear.
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Works across market conditions: Options arbitrage can be applied in rising, falling, or sideways markets, as it depends on mispricing rather than trend strength.
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Improves pricing efficiency understanding: Using arbitrage strategies helps traders better understand how options are priced and how relationships like put-call parity function in practice.
Call Premium + Strike Price = Put Premium + Future Price
This equation explains the pricing balance between call options, put options, and the underlying asset. Under put-call parity, both sides of the equation should remain equal when expiry and strike price are the same. If one side becomes higher or lower, it signals a pricing mismatch.
Such imbalances may create an options arbitrage opportunity. Traders can then buy the lower-priced combination and sell the higher-priced one to capture the difference, without depending on market direction.
Also Read: What Are Call Options?
Long Call Option + Short Put Option + Short Futures = Zero
For NSE European index options with put-call parity, the combination of long call + short put + short futures should theoretically net to zero when prices align (C - P = F - K). Deviations from zero indicate arbitrage by purchasing underpriced legs and selling expensive legs, resulting in a risk-free profit.
Illustration
Assume Nifty futures at 25,030 with a 25,000 strike at-the-money (January 2026 levels).
Call priced at ₹100, put at ₹80: C - P = ₹20 vs. F - K = ₹30 (₹10 mispricing).
Buy call (-₹100), sell put (+₹80), short futures (+₹30) for net +₹10 credit—instead of zero, capturing the spread.
Expiry Payoff [H3]
Profit remains fixed at +₹10 across scenarios:
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Nifty at 24,900: Call worthless (-₹100); short put loses ₹100 (+₹80 premium = -₹20 net); short futures gains ₹130 → +₹10.
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Nifty at 25,000: Options expire worthless (-₹100 + ₹80); futures gains ₹30 → +₹10.
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Nifty at 25,100: Call breaks even (0 net); put worthless (+₹80); futures losses ₹70 → +₹10.
Costs like STT may erode small spreads in practice.
Also Read: What is STT Tax?
Long Call Option + Short Put Option = Long Synthetic Futures Position
This position is created by buying a call option and selling a put option at the same strike price and expiry. For example, assume the 17,800 strike call option is bought for ₹87 and the 17,800 strike put option is sold for ₹70 (as of January 2026). The net premium paid to create this long synthetic futures position is ₹17 (₹87 − ₹70). This means the trader is effectively long on the underlying at 17,800 with a cost of ₹17.
To make the setup neutral, a short futures position is taken at 17,830. The spread between short futures and the long synthetic futures position is ₹30 (17,830 − 17,800). After deducting the net premium of ₹17, the remaining ₹13 represents the arbitrage spread. This value remains unchanged at expiry, regardless of market direction.
Also Read: What is a Put Option?
Long Call Option + Short Put Option + Short Futures = (-87 + 70 + 30) = ₹13
A non-zero value in this equation shows the presence and size of an arbitrage gain. Below are simplified expiry scenarios to explain how the payoff remains unchanged.
Scenario 1: Underlying trades at 17,700 on expiry
The long call expires worthless, resulting in a loss of ₹87. The short put has an intrinsic value of 100, adjusted against the ₹70 premium, leading to a loss of ₹30. The short futures position earns ₹130. Net result: -87 - 30 + 130 = ₹13.
Scenario 2: Underlying trades at 17,800 on expiry
Both options expire worthless. The call loses ₹87, the put retains ₹70, and the futures position gains ₹30. Net result: -87 + 70 + 30 = ₹13.
Scenario 3: Underlying trades at 18,000 on expiry
The call gains ₹113, the put expires worthless with ₹70 retained, and futures lose ₹170. Net result: 113 + 70 - 170 = ₹13.
In all cases, the arbitrage outcome remains constant.
What is a Put-Call Parity?
Put-call parity refers to the pricing relationship between European index options traded on Indian markets and the related futures contracts. When the striking price and expiry are the same, it aids in determining whether call options, put options, and futures are reasonably priced in relation to one another.
It also suggests that holding a little put and long call of an equivalent class will deliver an equal return. That is because you are holding one forwarding contract on an identical underlying asset, with an equivalent expiration date and forward price adequate to the options' strike price.
If the costs of the put and call options diverge so that this type of relationship does not hold, an arbitrage opportunity exists because the traders can theoretically earn a risk-free profit.
In India, index options such as Nifty 50 and Bank Nifty are European-style, which means they are exercised only on expiry. This makes put-call parity more accurate because there is no early exercise risk.
For Indian index derivatives, parity is commonly expressed as:
Call premium − Put premium = Futures price − Strike price
Symbolically:
C − P = F − K
Where:
C = Call option premium (NSE)
P = Put option premium (NSE)
F = Futures price of the same underlying and expiry
K = Strike price
In practice, traders also consider STT, bid-ask spreads, liquidity, dividends, and execution slippage, which can reduce or eliminate theoretical profits.
Thus, put-call parity provides the foundation for index options arbitrage in India, but real-world execution costs determine feasibility.
Arbitrage Strategy Through an Example
Let’s consider European-style index options on the Nifty 50 with the same strike price and expiry.
Suppose the following market prices are available:
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Nifty Futures (expiry 1 month): 22,300
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Strike Price (K): 22,200
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Call Premium (C): ₹180
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Put Premium (P): ₹40
Now, by using put–call parity formula, we get:
C − P = F − K
180 − 40 = 22,300 − 22,200
140 = 100
Since 140 ≠ 100, parity is not holding. The synthetic created from options (C-P) is overpriced relative to the futures.
This allows for the following arbitrage strategy:
Step 1: Construct Synthetic Futures (short exposure)
Sell the overpriced synthetic by:
Selling Call Options = ₹180
Buying Put Options = ₹40
Net premium received = ₹180 − ₹40 = ₹140
Step 2: Buy Actual Futures
Buy Nifty Futures = 22,300
Outcome at Expiry
At expiry, synthetic + futures cancel out to K = 22,200, so payoff is locked:
Futures bought at 22,300 settle at 22,200 > Loss = 100
Net option premium received = 140
Then, net profit, 140 − 100 = ₹40 per lot (ignoring costs)
Important Practical Considerations
Actual profits depend on:
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STT & exchange charges
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Bid–ask spreads
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Slippage
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Execution speed
If these costs exceed the theoretical ₹40 spread, the trade may not remain profitable.
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Option Arbitrage Opportunities
The Synthetic Position
Synthetic positions replicate the payoff of another position by combining different options or futures contracts. Synthetics are important in options arbitrage because they enable traders to compare similar positions and find pricing discrepancies.
For synthetics, the call and put must have the same strike price and expiration date, and the number of option contracts must be equal to the number of underlying shares or index units.
A basic example is the synthetic long call, which is formed by combining a long stock position and a long put option with the same strike and expiration date.
The maximum loss is restricted to the put premium, while the profit potential is theoretically limitless if the underlying rises, much like a normal long call option.
Additionally, synthetic positions have the ability to determine if put-call parity holds. If synthetic values differ from the corresponding actual option values, a price mismatch may occur.
Options arbitrage is only effective when mispricing results in a positive spread after taking into account STT, transaction costs, liquidity, and execution slippage. If these considerations exceed the spread, the transaction may end up losing money despite theoretical parity breaches.
Conclusion
Options arbitrage is based on identifying pricing mismatches between related option contracts and the underlying asset. By using structured positions built on put-call parity, traders aim to benefit from these imbalances without relying on market direction. While the potential returns from options arbitrage are usually limited, the approach focuses on consistency and price efficiency rather than speculation. Understanding the pricing relationships, payoff behaviour at expiry, and possible limitations is essential before using these strategies.
Note: Arbitrage strategies are legal in India when executed within the market rules and without manipulation. SEBI strictly monitors derivatives trades to ensure that arbitrage does not involve artificial price distortion. In 2025, SEBI took action against trading practices by a major global firm amid claims of market manipulation tied to index derivatives strategies.
