India’s benchmark Nifty witnessed a roller coaster ride today as the index opened flat and dropped down to 11326 in the morning. Thereafter, Nifty scaled up slowly and registered a high of 11406 around 2:15 pm. The most important question is why did Nifty fall sharply towards the end after recovering 82 points early on?
What Triggered The Recovery?
In today’s session, Nifty recovered 82 points after registering a low of 11326 as an acute mispricing was created in Call options around the low. One of the key advantages of options mispricing is that it can be used as an opportunity to generate profits if we can identify which one of the 5 greeks have caused the uneven shift in the premium. In today’s case, the mispricing was caused in the Call options. Take for example today’s session, the institutional traders took full advantage of the mispricing and went long in 1 lot 11400 Call option for every 2 lots of short position in the 11500 Call options. In conventional terms, it is also known as a bull call spread. But the catch here is to spot the mispricing based on the gamma and theta covariance factors ahead of time. It is the bull call spread that pushed Nifty up by 82 points intraday and generated an astonishing 118% return in the ratio.
What Triggered The Sharp Fall?
To understand what triggered the sharp fall towards the end, we must first look into the bull call spread closely. In today’s session, we replicated the ratio position of the institutional traders and sold 2 lots of 11500 call options for every 1 lot long position in 11400 call option. The institutions had entered the ratio at Rs.10.65 while we went long at Rs11. The ratio clocked a maximum return of 118% intraday while we netted 109%. An interesting twist happened when Nifty arrived at 11406. Since 11408 was the high of yesterday’s isolated selling, the institutional traders chose to square off the ratio exactly at that point and the market witnessed a sharp fall of 101 points in 27 minutes flat.