Markets & Elections: Are you ready with your F&O strategy?

Market volatility remains high just before the polling starts and rises to a crescendo as soon as the exit polls start trickling and counting starts

Tulemino Antao Mumbai
The General Elections to the 16th Lok Sabha in the second most populated country in the world is an extravaganza of sorts unparelled to any worldwide event with 814 million eligible voters

As lawmakers huddle together to form new alliances and up their ante to seek majority the markets will be watching every move that happens till the elections which start on April 7 and end on May 12.

In the Indian context, the election fever is somewhat like the cyclicals in the market that grips citizens every five years.

Market volatility remains high just before the polling starts and rises to a crescendo as soon as the exit polls start trickling and counting starts.

"There is certainly expectations of rise in implied volatility from current levels to the run-up of elections. One can position in different ways to capitalize on this expected rise in volatility," says Siddarth Bhamre, Head of Equity Derivatives and Technicals, Angel Broking.

With derivatives segment taking centre stage during these most crucial weeks that will determine the destiny of the nation for the next five years it is imperative that investors arm themselves with strategies ahead of the elections.

"First, as IV’s now are quite low, one can go long in 3-weeks INDIAVIX futures and rollover 3-4 times to reach mid May, however flip side to this is rollover cost and lack of liquidity as of now in 3-weeks contract," Bhamre says.

Other way is traditional formation of long strangle in April Nifty options, however if there is not much of movement in underlying during this period and even if implied volatility rises, delta and time value will work against this strategy, he said.

Market experts are also of the view that the probability of Nifty hitting 7,000 is quite a possibility amid a favourable outcome from the elections.

"My sense is Nifty can see pre election rally. Nifty can touch 6600 levels before election and there is high probability of Nifty touching 6900-7000 levels post election results if we get stable government. Nifty May expiry options are very costly as implied volatility is higher for May expiry. Going forward buy on dip strategy should be followed. If there is any correction in Nifty than I would recommend buying April 6500 call option," says Nitin Murarka, Head-Derivatives, SMC Global Securities.

The recently introduced India VIX futures can be used to hedge the risk of market volatility. Volatility index and markets generally follow the inverse relationship i.e. when VIX increases markets tends to weaken. Big traders can also use this future to hedge the option portfolio to limit the risk due to volatility.

"As of now we have only 3 week expiry future contracts for VIX futures hence we cannot buy May month VIX index. May month contracts will be introduced in April Month. However as per historical data VIX generally rises during election month due to lot of uncertainty. Currently March VIX index futures is trading around 14-15 range. However May option are trading at a VIX of 22% to 24%. Hence going forward VIX is expected to go up from current levels. Buy VIX index future would be good strategy just before election. Buying VIX index future will also give you hedge against long portfolio," Murarka added.

In the previous general elections held in April 2009, India VIX started picking up steam rising up from 39.49 on April 1 to surge to a high of 56.07 on May 20 as soon as the poll results ended.

"Firstly in terms of trading using INDIA VIX, the limitation would be that we have only 3 weekly contracts. Since the counting is going to start only May 16, any position on VIX anticipating this event  can be taken only from last week of April onwards (3 weeks before May 16). VIX usually trades between 13 to 30, presently around 15, but definitely when the May 3rd week contract opens for trading the last week of April, the value would be on the higher end of this range," says Nithin Kamath Founder & CEO of discount brokerage Zerodha.

If you are able to buy VIX around 30 anytime from the last week of April until the election results, it will be a decent trade expecting volatility in the markets, Kamath adds.

Using Options, the safe way to play it out would be by being long options - both calls and puts, " A long strangle" as it is called would probably be the safest bet, buying Nifty OTM (Out-of-the-Money) Calls and OTM (Out-of-the-Money) Puts, for example if Nifty is around 6300, buying the May 6500 call and May 6100 Put, the premiums are pretty high right now. Also it is best not to take any big bets for an uncertain event like this, he says.

First Published: Mar 07 2014 | 2:03 PM IST

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