In today’s article we shall discuss why Nifty Futures failed to capitalize on the sharp upside rally of 90 points triggered in the first hour of trade. We shall also showcase how mispricing in Call options played a vital role in the loss of bullish momentum around the 12200 zone. At first we shall observe the 12150 Call option for the 13th February contract because that is where the primary action took place today and the FII’s capitalized on the loophole.
The Fair Value
Step one is understanding what the market maker is trying to do, step two is about calculating the fair value of an option strike based on the contract they are trading. This is why it is important to ask why did we target the Call option in the morning and not the Put? This is because, when we used the 3D Delta software yesterday, we found that the market makers were building shorts yesterday, which they hurriedly covered by the end of the day. So we were eagerly expecting a positive opening today. This is where the scenario got interesting, Nifty opened gap up today.
The Gap Up Opening
Today’s gap up opening at 12105 was very significant. Remember that the market had closed at 12048 yesterday. This is what led us to look into the Call strike in the morning. The next question is why did we choose the 12150 Call? We chose the 12150 Call because it was the strike which was closest to the fair value and it was a fantastic opportunity from the risk management metric. Here you must keep in mind that timing is very important as fair value also adjusts alongside the theta decay during live trading hours.
Using Option Mispricing
After the market opened at 9:15 am, the undervaluation in 12150 Call option was very clear. The only to capture these fast opportunities is to have a good system in place real time because the FII execution is fast and furious. If you look closely, you’ll notice, the opening price of 12150 calls option was Rs20. The call strike opened at Rs20 and hit Rs35 in under 40 seconds. We entered the 12150 call option at Rs.35.75 and the market shot up. Since the upside rally was built on an undervalued call option, it was very important to understand that the upside rally in Nifty would also last till the mispricing opportunity prevailed. So we trailed the Call till it hit Rs.60 zone. Around Rs.57-58 the market makers began squaring off long positions. The process took just 16 minutes. Throughout the rest of the day, profit booking was observed and Nifty continued to slip downwards from the 12200 zone. The 12150 Call option settled at Rs26, while Nifty closed at 12128. This is what makes option trading worth the patience and time.
Nifty 12150 Call Option Trade