Play the future

A long February Nifty would work very well if the pre-Budget rally is going strong around the settlement date.

The continuing bull run is emitting a few dangerous background signals in the spot market. Breadth is thin and there is little apparent interest in smaller stocks. However, this narrowing hasn't affected optimism in the bigger stocks as yet.

In technical terms, the market should run up at least another 50 Nifty points (till 3080 levels) and it could run up by another 120 Nifty points, given good sentiment. The Nifty put-call ratio is actually pretty high because of hedging. At a Nifty PCR of 1.85, the market is looking oversold despite the rise!

Derivatives traders have a peculiarly-timed settlement to contend with. Since the Budget Session is usually the last working day in February, the settlement often precedes it. In 2006, the changeover will occur as early as February 23 with a three session countdown till the Budget.

At that point of time on Feb 23, the pre-Budget rally could still be in full force "� the market usually gains substantially in the period immediately before the Budget. In that case, there would be a massive rollover of long positions at the settlement. Interestingly for a hedger, puts should be fairly cheap at that stage because of a rising market.

The Budget period usually has abnormally high volatility in the spot market and there is always a chance that implied volatility in F&O will be lower in comparison to historic volatility during this period. If that does happen, there may be a way to exploit any post-budget crashes.

Index strategies
The spot Nifty is currently trading around 3027 with the February futures being held at 3021, March Nifty futures at 3010.5 and April Futures at 3005. Open Interest is extremely low in April so that series can be discarded for all practical purposes.

A long February Nifty would work very well if the pre-Budget rally is going strong around the settlement date. A calendar spread of short February and long March Nifty would also work well if the differential narrowed as it's liable to do around Feb 23.

The opposite calendar spread of long February and shirt march would only work if the differential between the two series increased and that is not likely as we get closer to settlement date.

Since we believe that the pre-Budget rally is likely to be in full swing around settlement time, it would be tempting to take a naked long February Nifty position, If you're more conservative, the calendar bear spread of short February and long March should also work.

There is a chance that the March future will actually move into premium from backwardation if the market does move steadily ahead.

In the options market, a standard bullspread with a long 3050c (37.45) versus a short 3070c (26.05) costs around 11.5 and pays a maximum of 8.5. The risk:reward ratio is adverse so this short-range bullspread doesn't seem worth taking.

A wider bullspread with long 3050c versus short 3100c (17.65) is possible. This would offer a maximum return of around 30 on a likely outlay of 20. So the ratios are more reasonable for a wider bullspread.

Apart from these three points 3050, 3070 and 3100, there is also reasonable liquidity at 3090c (19.55). If you could get a position of long 3090c and short 3100c at these prices, the outlay would be about 2 for an amazing return of around 8. Wonder how long it will take the imperfection to clear?

If you decide to take a bearspread in the index options segment, the liquidity is limited to points such as 3000p (41), 2950p (24) and 2900p (14.45). A bearspread with long 3000p versus short 2950p costs around 17 and pays a maximum of 33.

A bearspread with long 2950p versus short 2900p costs around 10 and pays a maximum of 40. Obviously it would take a fair correction to push prices down this far inside the settlement.

Nevertheless the risk:return ratios are good enough to suggest that bearspreads may be worth it. A couple of high volatility session would be enough to make these work.

A strangle of 3000p and 3050c costs about 78. This long position would be profitable only if the market moved beyond 2920-3130 within February 23. While this is possible it doesn't seem a terrifically paying position.

STOCK FUTURES/ OPTIONS

There are very attractive ratios available in the stock options section. As usually liquidity there is restricted to a short list of select stocks and none of those seem to have very clear technical positions.

Among the short-list of stocks with interesting technical positions, most are worth playing only in the futures segment. On the long-side, futures positions in Cipla and Ranbaxy could work. A long future in ITC may also be profitable and Grasim, Hero Honda, M&M, Satyam and Tata Power also seem bullish.

Three index majors look weak "� these are ACC, Bharti Tele and Tata Steel. Bharti is actually a very difficult case to read since the technical possibility of a rise also exists. A long 380c (4.15) could be coupled to a short future. In ACC and Tata Steel, a sale of the February future seems reasonable.

In the middle of an apparent bull-run however any short positions need to be monitored closely and liquidated anytime they run into profit. Set strict stop losses if you decide to go short.