Stay hedged to guard against sharp moves

The March series started on a bullish note with the Nifty logging gains on day one, but it could not sustain the momentum, as the broader market was weak. Though the Nifty has an entirely different framework from other indices, if the mid-cap stocks don’t perform that will tie down the Nifty within a range. Going by the Japanese candle stick chart formations, the week would very likely start on a weak note. Also, since the March series has just started, creation of fresh short positions would be more aggressive. As the Nifty has not yet broken its earlier lows, it would be well for traders to hedge even their short positions, because short-covering bounces are as brutal as the meltdowns.

Last week, in this space, we had suggest that it was time for straddle sellers to come back. We would still stick our neck out and maintain that position, with an exception that have some out-of-the-money put options as well. These put options would take care of any sharp fall or gap down opening that may happen from international developments. Also, out-of-the-money call options should be there in covered call positons for the same reason as for the straddle.

While the broader market is underperforming, a look at the relative performance of the Nifty on Thursday shows that the index corrected less compared to other Asian and European markets. So, the probability of a broad, range-bound movement in the Nifty remains high now.

The Bank Nifty had underperformed the Nifty. An interesting thing about the Bank Nifty is that even if the banking sector breadth is bad, Bank Nifty does not lose much weight. At the same time, even when the breadth of the banking sector is good, the Bank Nifty might slip, as happened on Thursday.

Since the banking sector is under the shadow of bad news, the instinct for a trader would be to take short positions in the Bank Nifty. If one is not a professional traders, please do not take short positions, as the index may not react in a way expected by the trader. A short position, however, may be taken on days when the large private sector banks come under selling pressure, but have a stop loss as well.

The fresh round of up-move in the IT stocks, which started a week before last, seems still hold good, though the pace of rise has slowed. Still, given the way the market moves are panning out, one can have long positions in these stocks through call options and covered call strategy. But the IT stocks may witness profit booking pressure on days the banking sector is in green territory, as hedges would get unwound.

Rajiv Nagpal