When it comes to trading an event like the Budget, any experienced trader knows that it is prudent to be prepared for all three outcomes. The Budget however, is very rarely neutral in its impact. It usually results in a sharp move in one direction and a noticeable increase in volumes and volatility for about 10 sessions on either side of the speech.
It takes weeks to evaluate the likely fundamental impact. Quite honestly, it usually doesn’t change things much. Finance ministers rarely have the courage to announce sweeping reforms and even if they do, the babus talk them out of it. A strictly fundamental investor can ignore the Budget and take the time to redeploy assets after understanding what is going on.
However, so far as a trader is concerned, by the time the fundamental ramifications are known, most of the short-term price action is over. So the trader must “punt and hope” and be prepared to see his view going disastrously wrong. To add to the complication, the February settlement almost always occurs before the Budget.
The temptation is to take a bullish stance until the end of the February settlement -- obviously with disciplined stop losses in place. If there’s a pre-Budget bull run, it means a strong carryover since the settlement comes just two sessions before the speech. The trader has a chance to collect profits and exit if he thinks the Budget will be bearish.
Due to the settlement, long positions in February calls will be hit by the expiry effect while long March calls will lose value the instant the settlement occurs. However, if we’re considering bullspreads in March or April, a bullish strategy could work.
A long March 5600c (98 premium on the February 7 close) and short March 5800c (65) costs a net 33 and pays a max of 67. A short February 5600c (26) and a long 5700c (13) pulls in 13 premium and potentially loses 87. Combine the two spreads and the risks of the reversed February bearspread are largely eliminated.
If the February reversed bearspread expires untouched, (if the Nifty stays under 5600), the net cost of the March bullspread drops to 20. If the February bearspread is hit (the Nifty rises above 5600), the March bullspread gains correspondingly in value. This is by no means a safe strategy. But it works better and yields higher profits in many circumstances compared to a vanilla long futures with a stop loss.
Similar methods employing April or June options are also worth trying and it makes sense to tinker with a range of potential option strikes and long-short combinations. The idea is, we should see a small rally by the end of the February settlement (February 24) and the trader must look for ways to exploit that movement.
