New scrips cleared for trading

DERIVATIVES

A bull spread appears more likely to work.

Short-covering on and around the settlement sparked off an apparent trend reversal with the market shooting up in the past six sessions.

The carryover into the September settlement has been fair without hitting August's record carryover levels. The addition of 14 new scrips to the stock futures and options list should add further liquidity to the situation.

Index strategies
The spot Nifty closed at 4464 on Friday with the September series settled at 4429 while the October series was settled at 4410 and November at 4397. Open interest in the November series has already hit 41,000-plus, which is quite impressive.

Among the other indices, the September Junior was settled at 8620 with the spot Junior held at 8633. The September Bank Nifty was settled at 6682 with the spot at 6676. The CNX IT was settled at 4792 with the spot closing at 4813. Apart from the Nifty, none of the other indices have any liquidity outside of the near-term contract.

The Nifty September-October differential is a little larger than one would expect and this is a short settlement. So arbitraging with a calendar bear spread is possible "" however, one would prefer to wait a week or so before taking a short September-long October.

The differential is unlikely to disappear. The CNX IT contract normally trades at premium to the spot so, a long position here is reasonable.

The institutional situation is quite interesting. Domestic funds have been steady buyers through the past few weeks while the FIIs have been massive sellers.

The FIIs triggered the rally by covering shorts and their current attitude involves increasing exposure in long index calls, long index futures and short stock futures.

They have displayed a consistent historical pattern of using long index calls as hedging instruments and if this continues, one must assume that they are still bearish. However that might well change if the rally continues and the hedge funds, which have exited, come back into action.

Technically speaking, the Nifty has decent support at 4350 and 4400 and it will face continuous selling pressure at current levels and above.

But quite a few market leaders including Reliance Industries and Bhel have already broken past previous highs so the rally could continue after a short-term correction. It would be normal to expect high volatility in this situation and the trader should be prepared for 150""point daily ranges and a movement between 4300-4600 next week.

In the Nifty options market, the put-call ratio in terms of open interest is at 1.45. This is in the bullish range without being excessively high. This leads one to believe that any short-term sell off will not be too severe or last too long.

Surprisingly, given the speed of the rise, there is ample liquidity in the call chain all the way till 4700. A bull spread with long 4500c (90.75) versus short 4550c (72.2) costs about 19 and pays a maximum of 31. That's a decent risk:reward ratio in a bull market. A wider spread with long 4500c versus short 4600c (54.6) costs 36 and pays a maximum of 64.

On the downside, a long 4400p (120) versus a short 4300p (87.55) costs 32 and pays a maximum of 68. A shorter bear spread with long 4400p and short 4350p (101) costs 19 and pays a maximum of 31. This is exactly the same risk:reward ratio as a near the money bull spread.

Given the technical perspective, it is almost a toss up, which directional view the trader should take. A bull spread appears slightly the more likely to work and the initial margin and payout will be a little less because of asymmetrical put-call pricing.

A straddle at 4450 is very expensive costing around 141 for the put and 120 for the call. It offers breakeven if the market swings till at least 4710 or 4190.

A strangle of long 4500c and long 4400p costs 210 and also breaks even if the Nifty moves till either 4190 or 4710. It's unusual to find such a perfect hedging fit between straddle and strangle. However it also means that there are no apparent arbitrage opportunities available with a short straddle and long strangle combination.

On balance, take the 4500-4550 bull spread. If you are prepared to hold until near-settlement, you can take the 4400-4350 bear spread as well. Both these positions should offer positive returns before September 25.

STOCK FUTURES/ OPTIONS

In the stock F&O segment, Nagarjuna Fertilisers has hit its marketwide limit. This could put a small crimp in the bull run.

There is also a possible arbitrage in SBI, where the spot closed at 1600 while the future hit 1612. This is likely to mean a sell off in the future coupled to a continued bull run in the underlying.

Quite a few other stocks have similar positions open with the futures trading at significant premium to the underlying. Reliance, Tata Steel and GMR Infrastructure are in this group and along with Sail, these scrips are likely to hog the limelight in the stock futures segment.

Bhel is also likely to hot up since the underlying made a strong move, which has not really been reflected so far in the futures segment.

There could also be a concerted long move across automobile shares with M&M and Maruti providing impetus. Jet Airways could prove to be an interesting case among aviation stocks.

The underlying closed at 808 with the future settled at 801. Arbitrageurs will find it difficult to even out the price differential because it will involve selling the stock. But there will be definite buying in Jet futures.