Business Standard

Sell Straddles

DERIVATIVES

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Devangshu Datta New Delhi
 The market looked poised for a period of either declines or for range trading between Nifty 1350-1430. The Nifty came down from around 1430 to about 1372 with marked weakness in the last two sessions.

 If these declines continue and the Nifty goes down below 1350, we are likely to see an intermediate downtrend. That would pull prices down to about 1275 levels.

 In the event of the market rising above resistance at 1430, the rally will continue with new upside targets.

 The put-call spread is in neutral territory at 0.36 and there's no obvious signal from the open interest levels.

 Traders should be interested in bear spreads and in spreads that try to exploit range trading inside 1350-1430.

 It is also possible to take contingency measures to hedge against moves outside this range. Options are still pretty expensive - implied volatility is obviously high.

 Guarding a wide ranging move is tough. If you go with long 1350p (15.45) versus short 1340p (11.45) and long 1430c(11.90) versus short 1440c(9.10) you have a synthetic position, which will cost 6 and pay a maximum of 4.

 Another possibility is to sell a straddle and buy a strangle. For example sell 1370p (24.3) and 1370c(35.55) for an income of about 60. This position gradually becomes unprofitable if the market moves outside 1320-1420.

 We can cover the possibility of a break in either direction with a long 1430c (11.9) and long 1320p (7.35). The total income would be a maximum of about 40 with a position that stays profitable within 1330-1410 and loses a maximum of 19.

 A look at the graph suggests we should simply take the short straddle because it actually offers a wider range of profitability.

 It is possible to create fairly cheap bull spreads with say long 1380c (30) versus short 1410c (18.5). This is an outlay of 12 with a potential profit of 18. Bear spreads like long 1360p (20.3) versus 1340p (11.5) would cost 9 for a potential profit of 11.

 The Nifty future are all at substantial premiums to the spot price and October is at premium to September. Hold the previous recommendation of a bear-spread of selling September Nifty (1379.9) and buying October Nifty (1382.5).

 Stocks: There are very few option stocks that seem to be overtly bullish. Many are testing support levels following a decline. It's difficult to make a call on the direction of such stocks. HLL, ITC, Infosys, RIL, etc. will probably move with the market since they have large combined weights in the Sensex/Nifty. Since we don't have a clear view on next week's market direction, we don't have a very clear view on these either. Here's a short technical take on several key option stocks.

 BPCL: The stock may have hit reliable support at 345. Makes more sense to take a long October future or to take bull spreads. Bull spreads in the range of long 340c (20.5) versus short 360c (11.65) seem to have reasonable payoffs with an outlay of 9 versus potential profits of 11.

 Digital: Looks most likely to go through range-trading between 500-550. May be worth selling the 520p (19) and 520c (27) for an income of 46 and a position that stays profitable between 480-560.

 HLL: The stock looks weak and could react till around the 180 level. May be best exploited by selling out-of-money calls or by taking a bear spread of long 185p (6.5) versus short 175p (2) for an outlay of 4.5 and a potential gain of 5.5.

 HPCL: The stock is likely to range trade between 405-435. If you sell the 430c (28) and the 430p (28), there is an income of 56 with profits while the stock is between the 380-480 levels.

 Infosys: Infosys is very interestingly poised at 4150. If the support at 4135 breaks, the stock could fall till around the 4000 level. Either sell out-of-money calls above 4300 level and thus create a bear spread or take a bear spread with long 4100p (115) versus short 4000p (75). This requires an outlay of 40 with a potential profit of 60.

 Satyam: The stock could move down until the 220 level from current levels of around 235. Either sell out-of money calls or create bear spreads with positions like long 230p (7.5) and short 220p (4) for an outlay of 3 and potential profits of 7.

 Reliance: The stock is likely to find reliable support either at current levels (412) or slightly lower at around 405. Not worth entering in the options market. It may make sense to buy the October future and possibly sell the September future.

 Wipro: The Wipro stock looks quite bearish. The September future is a sell, possibly the October future is worth buying in expectation of a bounceback. There is very little liquidity in the options section. However, the scrip could fall until around the 1130 levels so look out for possible bounces from that point.

 

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First Published: Sep 15 2003 | 12:00 AM IST

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