Bear-spread looks attractive

DERIVATIVES

Market could see a scenario of continued bullishness where the bearspread pays. But the trader will have to watch this position like a hawk in order to close it with perfect timing.

The market continued to generate high open interest and exhibited a bullishness associated with new highs. Large intra-day swings led to more trading volumes during the day as well. Some speculative action was seen ahead of Q1 results.

Index strategies
The spot Nifty closed at 4385 points with the July Nifty series at 4370 and the August series at 4359 and the September series at 4349. The Junior closed at 8729.5 with the July series held at 8749/ The BankNifty closed at 6791 with the July series held at 6823 and the CNXIT closed at 5240 with the July series at 5237.

The CNX 100 closed at 4306 with the July series at 4304. Apart from the Nifty none of the other contracts have significant liquidity in the August or September contracts.

Assuming that the market continues to be bullish, a naked long position in the July Nifty could pay. The Junior has been out of synch"� moving much less than the Nifty and the CNX-100 has also been dragged down by the Junior's underperformance. But this is not enough to go short "� the correlation between the Nifty-Nifty Junior is very high and we are unlikely to see a divergence.

The Bank Nifty looks marginally bearish due to the influence of a sell off in ICICI "� a short here may work. The CNX IT presents an interesting position "� big stocks such as Infy, TCS, Satyam and Wipro have all seen the creation of speculative long positions in anticipation of Q1 results.

The bullishness may abate if Infy doesn't beat the market or provide exciting guidance next week. It may be worth going long in the CNXIT with the intention of reversing on July 10-11 unless there's something positive in the results.

In terms of calendar spreads, the Nifty differentials are normal in a bullish market and there isn't much scope for arbitrage. A long July- short September position would only pay off if the market really spurts but even then, the difference in the two contracts is unlikely to increase much.

In the options market, the Nifty PCR (in terms of OI) is running at around 1.65, which is in a healthily bullish range. The FIIs and mutuals were both strongly bullish last week and the FIIs expanded their F&O exposure considerably. Whenever the FIIs are in serious investment mode, the PCR tends to rise because they take hedges in index puts.

We can expect a significant amount of intra-day volatility next week because the Nifty has not yet settled down post-breakout. Our key range would be somewhere around 5250-4500, which is quite wide. The upper reaches are illiquid; the call option chain does not extend beyond 4400.

That restricts our ability to generate spreads. A bullspread with long 4400c (64) cannot really be created because there is no liquidity in the 4450 range. If you take a naked 4400c the breakeven is at 4465. That level may well be reached in intra-day trading at least.

A bearspread with long 4350p (74.75) and short 4300p (58.65) costs about 16 and pays a maximum of 34. This seems extremely attractive. The market tested 4300 several times last week on bouts of intra-day selling.

The chances of fully realizing profits on this position is good and it has an excellent risk to return ratio. We could see a scenario of continued bullishness where the bearspread pays nevertheless but the trader will have to watch this position like a hawk in order to close it with perfect timing.

A strangle with long 4350p and long 4400c costs about 140 and breaks even outside 4210-4540. This is well outside our maximum projections. The downside can be laid off with a 4200p (38) but the upside is open.

The resulting lopsided position will breakeven if the market moves outside 4250-4500 and the maximum downside profit is about 50 while the upside is unlimited.

STOCK FUTURES/ OPTIONS

There were four industry themes visible in the stock F&O market. One is the IT results trigger, which could cause 3 sessions of bullishness followed by a likely reversal unless Infy or TCS come through with astonishingly good results. While it lasts, Infy, TCS, Wipro, Satyam and maybe Polaris would provide opportunities for long futures.

TCS is about the only one of these which could ride out disappointing Infy results. The second theme is cement stocks, This week, ACC, Grasim and JP Associates came through with strong price gains. That could continue or spread across the sector "� obvious targets would be Gujarat Ambuja and India Cements.

The third theme is less marked. Auto stocks such as M&M and Telco did well "� and Maruti also looked bullish on Friday. Perhaps this could cause a move into two-wheeler stocks such as Bajaj and Hero Honda? The June auto-sales numbers have been surprisingly strong.

The fourth theme is a slight weakness in banking stocks. ICICI reacted on Friday and SBI looked weak without losing ground. This could be just a natural consolidation post the ICICI FPO in which case, it is stock-specific.

However, if ICICI and SBI do fall, there is every chance that the rest of the sector would decline in sympathy. The ICICI futures was trading at significant premium to the stock which declined in the last 15 minutes. That could mean some selling in the futures market on Monday.

The new listing DLF will see some more in the way of high-velocity, high-volatility trading through next week. The stock could swing anywhere between 480-600 in the next 5 sessions so traders can try to buy sell towards the extremes of this range. You could also try a calendar spread with long August, short July.