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B. Venkatesh

IN DISCUSSING the positive effects of the current market rally with a friend, a point arose as to whether trading in the spot market is a constant-sum game.

Popularly called the zero-sum game, this essentially means that if two persons play the game, the amount one gains is equal to the amount the other loses.

If trading in the spot market is a constant-sum game, it means that if the buyer of a stock loses, the seller gains an equal amount. Or, if the seller loses, the buyer gains.

So, is spot market trading a constant-sum game? Suppose you sell Satyam at Rs 250; you purchased the stock a year ago at Rs 150. Your profit is Rs 100 per share, not including brokerage. Can you say that the person buying from you has incurred a loss of Rs 100?

Your gain is not the other person's loss. The other person buys the stock, expecting the price to move up further.

If he sells the stock to Investor C at, say, Rs 200, his loss is Rs 50 per share. But that is not the amount Investor C gains; that buyer will profit only if he sells the stock at a price higher than his purchase price of Rs 200 per share.

Trading in the spot market is, hence, not a constant-sum game.

The derivatives market, on the other hand, is an example of such a game. Suppose you buy September Satyam futures at Rs 250. If the futures contract moves to Rs 255, you gain Rs 5; exactly the loss incurred by the person who has sold the contract at Rs 250. If the futures contract falls to Rs 245 instead, you lose Rs 5, which is equal to the amount the seller gains.

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