DERIVATIVE STRATEGY – BUDGET 2021 by HDFC Sec

The Budget session of Parliament will commence on January 29th and finance minister Nirmala Sitharaman will present the Union Budget on February 1st.

Nirmala Sitharaman earlier hinted that Hundred years of India wouldn’t have seen a budget being made post a pandemic like this and therefore Budget announcement could be an extremely important event for Indian markets.

Depending on the budgetary announcements, Nifty may swing wildly on either side.

Moreover our markets have almost doubled from the March lows within the span of last ten months.

For investors who are fully invested, it is advisable to hedge your portfolio (full or part) ahead of such big events. This can be done by buying Index Put Options.

However one should understand that hedging is like an Insurance, which comes with some cost.

DERIVATIVE STRATEGY – INVESTORS HOLDING LARGE PORTFOLIO

For Investors who understand derivatives (its risks and rewards) and would like to hedge before
announcement of budget.

There are lot of expectations from the Union budget 2021 and therefore there could be lot of volatility depending on the announcements from the budget.

Therefore for those who hold large portfolios, it is advisable to hedge (full or part) through buying Put Options. Here the simplest thing to do is to buy a Nifty Put.

STRATEGY : Buy NIFTY 14300 PUT AT Rs 211 (04 FEB EXPIRY). Lot size 75. Contract value Rs 1072500

The quantity of Put options that need to be bought will vary depending on the size and composition of the portfolio. Investors need to ascertain the beta of their portfolio.

1) Large cap Portfolio – The beta of the diversified large cap stock portfolio is likely to be around 1.

Assuming the size of the portfolio is Rs 1 Cr, one need to buy 9 lots of Nifty 14300 Put options.

2) Mid cap & Small cap Portfolio – The beta of the diversified Small-cap stock portfolio is likely to be 1.10

(Last 5 years beta-Source Bloomberg). Assuming the size of the portfolio is Rs 1 Cr, one need to buy 10 lot of Nifty 14300 Put options.

Depending on the composition of the portfolio, the cost of hedging Rs. 1 cr portfolio will be approximately Rs. 1.42 lakhs to Rs. 1.58 lakhs ( 1.9% to 2.1% of portfolio value).

DERIVATIVE STRATEGY – FOR CONSERVATIVE TRADERS

Strategy : Short Iron Butterfly

We are suggesting short Iron Butterfly strategy for conservative traders.

It has been observed from past 7 years data that IV drops significantly on the budget day (Refer slide 5 & 6). Moreover Option data suggest we may move in the range of 14000-14800 till 04 Feb Expiry. Therefore we are suggesting following strategy to take benefit of it. It is four-part strategy consisting of a bull Put spread and a bear Call spread.

STRATEGY : SHORT IRON BUTTERFLY SPREAD

NIFTY(CMP 14372) Lot size 75 EXPIRY 04 FEB

Leg 1 : Sell 1 Lot NIFTY 14400 Call at Rs 257.1.
Leg 2 : Sell 1 Lot NIFTY 14400 Put at Rs 254.1.
Leg 3 : Buy 1 Lot NIFTY 14800 Call at Rs 96.7.
Leg 4 : Buy 1 Lot NIFTY 14000 Put at Rs 110.85.

Total cost of the Strategy Rs 7226

Maximum Profit of Rs 22774, If Nifty closes at Rs 14400 on 04 Feb Expiry

Upper Breakeven Point : 14703. Lower Breakeven Point : 14097
Approx Margin requirement : Rs 85000