Option premiums rise

DERIVATIVES

Despite overall bullishness, a bear spread looks more tempting.

The market indices hit a sequence of new highs although there was some selling above Nifty 5200 levels on Friday. Futures and options volumes and open interest was excellent across the board and Nifty option premiums spiked.

Index strategies:
The Nifty closed at 5186 in spot with the October future settled at 5192.2 while the November contract was settled at 5187 and December was settled at 5196.45. Open interest increased substantially across all three contracts "� the FIIs were partly responsible since they increased their futures exposure.

Of the other indices, the Nifty Junior crossed 10,000 before seeing a sell-off that brought the spot down to 9767 while the October future was held at 9800. The Bank Nifty was down 2.4 per cent closing at 7845 in spot while the October series was settled at 7888.

The CNX IT was up and closed at 4868 in spot while the October future was held at 4849.45. As is normal, only the Nifty had significant open interest and volumes in the November and December contracts.

A broad analysis suggests that sentiment is generally positive since the Nifty future is trading at a premium, which happens only when the market is very optimistic. Even in the Junior, which saw a weekly loss, the future is running at premium.

There isn't enough differential in the Nifty November-October series to set up a calendar spread of any description. October is a short settlement with a fair number of holidays so there is unlikely to be arbitrage play developing.

In the Bank Nifty, the sell-off appears likely to continue into next week. However, a long position in the Bank Nifty may pay off if it can be held late into settlement. The CNX IT continues to look weak "� this is indicated by the fact that the future is at discount to spot. This week's rise seems to have been a technical correction.

It's early days to project the likely possibilities in the new contract offered in the Nifty Midcap-50 with a market lot of 75. It could lead to an increase of liquidity in the cash segment if the hedging possibilities offer comfort to traders. But that will depend on the popularity of the futures contract.

In the Nifty options segment, the technical perspective over the next week is likely range-trading or a correction down to around 5050 levels. Our target zone would be the 5050-5250 area.

While open interest increased across the entire options segment, open interest was asymmetric with more open puts than calls. As a result, the put-call ratio in terms of open interest rose from the 1.2 levels to the 1.4 levels. This suggests that the major market trend remains bullish.

The FII attitude was interesting. There was a significant increase in index option exposure on Thursday and Friday. This usually indicates hedging action when the FIIs are looking to commit themselves in one direction in the cash market. Their overall attitude is usually the inverse of index option exposure.

The rising put-call ratio suggests that they are hedged against a downtrend. This could mean the flood of inflows will continue. Against that, there was anecdotal evidence of some selling on Friday though the overall FII attitude was net positive. The Indian funds have been consistent sellers through last week.

In terms of premiums, a bull spread with long 5200c (148) versus short 5300c (96.75) costs 50 and pays a maximum of 50. Not an attractive risk:reward ratio. A bear spread with long 5150p (143.65) and a short 5050p (113) costs 30 and pays a maximum of 70.

Obviously the bear spread has the better pay-off. I think next week will see at least one session where prices trade to the lower end of this 5050-5150 range. If you can hold the position till the end of the settlement, a pay-off is very likely. So despite overall bullishness, a bear spread looks more tempting.

In strangles, a wide long 5050p and long 5300c costs a whopping 209. The breakeven would come at 4840 or 5510. If you lay off with a short 5450c (46) and a short 4900p (73), the cost comes down to 90.

The breakeven is then at 4960 and 5390. The payoff if one side is completely realised, is 60. If both sides are realised, the return is 120. Not good enough. The market is unlikely to swing through 4900-5450 in the next three weeks.

STOCK FUTURES/OPTIONS

The hot stock is new listing, Power Grid. It's impossible to come up with a technical target but it's bullish. Apart from PGCIL, activity in the stock F&O segment is dominated by the usual Ambani suspects. Reliance Energy, Reliance Capital, RNRL, Reliance Communications and Reliance Industries-IPCL, all registering high volumes.

RIL is interesting with the spot and future both at 2492. The cash-trading pattern saw a high-low range of 2420-2515 with open and close at 2495 and 2492 respectively. Candlestick chartists say that this "star pattern" with open-close close together usually means a strong trending move. Given an earlier breakout, this is likely to be up.

The 2490c costs 92 and it has high volume. The 2490p costs almost exactly the same! A straddle costs about 185 and breakeven comes with swing beyond 2305, 2675. Not unlikely. But take the long futures position instead of the straddle.

The sell-off in financials hit IFCI quite hard after several weeks of bullishness and that is in the F&O ban list. Nagarjuna Fertiliser, Tata Tele and Jaiprakash Hydro are three other "banned" F&O stocks, showing similar behaviour with sharp corrections after a strong bull run. Assume the downtrends will continue until the futures open interest is down to manageable levels.