Buy October, sell September

DERIVATIVES

The differential between September and October Nifty futures can be exploited with a calendar bearspread.

Happy days are here again and the market heads into settlement week with rising prices and buoyant volumes. Open Interest is high and of course, the indices are at record levels. FIIs increased their derivative exposures and so did other derivative traders. There is every sign that the carryover will be high.

Index strategies
The Nifty closed at 4737 in spot with the September future settled at 4852, while the October future was settled at 4833 and the November future was settled at 4812. While some 3.4 lakh September contracts were cashed out, over 3 lakh October contracts were opened along with some 24000 November contracts.

The premium of September over spot is interesting and so is the premium of September over October. The market will have to open strong for the futures levels to be justified. The differential between September and October can be exploited with a calendar bearspread where September is sold and October bought.

Despite the high margins imposed in the last 4 sessions, arbitrageurs are likely to get into this. If you want to get fancy, instead of locking in the 19-point difference with a calendar spread, you could take a naked long October position. In a buoyant market that might yield a fast buck though of course, the safety factor disappears.

Among the other indices, there is still little liquidity in the October segment and none at all in November. The Junior closed at 9372 in spot and the September contract was settled at 9359.

The October contract was settled at 9445 though there is only four-digit OI in this contract. Arbitraging would require a calendar bullspread, selling October and buying September. The sale part of this is liable to be at an uncertain price. Nevertheless, try and see if you can get it "� the difference is quite large.

Of the other indices, the BankNifty jumped 8 per cent and closed at 7464 in spot. The September future was settled at 7508 while October was settled at 7525. There is reasonable liquidity in October (35000 contracts).

A calendar bullspread with long September-short October will not give you much however in terms of a difference. The overall technical position appears bullish for banks at the moment. So a naked long position is possible.

The CNXIT is weak due to the rising rupee. It lost a little ground and closed at 4604 in spot and it was settled at 4631 (September) and 4639 (October) respectively. There is 10000- worth of OI in October so again liquidity is adequate. Here, the differential is not worth arbitraging.

However one can make a call on the rupee situation, assuming that the inverse relationship will hold. The RBI is bound to intervene to try and ease the rupee over the 40-mark. But will the central bank react before Thursday's settlement? If not, a short September future looks a good play.

Technically speaking, the Nifty has blasted past a critical barrier in establishing a new high. The previous highs between 4625-4650 will be an important support zone. On the upside, one can see a target of 4950; maybe even an intra-day target of 5000.

However, settlement week always sees high volatility and you can expect at least one session of profit-booking or weak sentiment, call it what you will.

So our range of interest would be 4600-4950. So a trader could have either a bullish or bearish view. The settlement considerations suggest that optimal strategy would be to take wider spreads only on October options. In the September series, take only narrow spread which may be hit on an intra-day basis.

In the Nifty options market, OI has risen across all three terms. The put-call ratio in terms of OI has risen to 1.67. This is not only bullish, it suggests momentum is strong and carryover is likely to be close to record levels.

In terms of chain liquidity as well, there is ample liquidity till 4900 in both puts and calls and till 5000 in the call segment. By and large, near-the-money premiums appear to be somewhat underpriced.

In the September segment, a long 4850c (37.9) and a short 4900c (27.95) costs just 10 and has a maximum payoff of 40. That's an excellent ratio for a bullspread which is extremely likely to be struck and fully realised. But despite the expiry factor, these premiums are likely to climb on Monday.

The impression that premiums are underpriced is reinforced when one examines September puts. A long 4800p (33.5) and a short 4750p (26.1) costs a net 7.5 and pays a maximum of 42.5. Again this risk:reward ratio is a little too good to be true even at this late stage in the settlement.

If these price-relationships hold, it would be perfectly possible to take both positions on Monday. The combined position is a long strangle at 4800, 4850 covered with a short strangle at 4750, 4900.

The total premium outflow is 17.5. Breakeven is at 4780, 4870. The return if either end is fully realised is just over 30. If both ends are realised, the return is an amazing 60-odd.

STOCK FUTURES/OPTIONS

Naturally the bullishness is evident across the entire stock universe barring IT counters. Three or four sectors stand out as likely to deliver on long futures position "� auto stocks, financial stocks, telecom stocks and anything belonging to either the Reliance or ADAE groups.

SBI has a possible arbitrage with the future having settled at 1816 while the spot price dropped to 1807. Arbs will buy the spot and sell the future.

There is also a hint that realty stocks (DLF, Unitech, Renuka) are set to make a big upwards push though price changes were not as dramatic. Long carryovers are likely to be large.

If you want to get smart, front-run by going long early in the week on October futures rather than September.