The market shot up after the Independence Day weekend on the basis of strong Foreign Institutional Investor (FII) buying. Domestic sentiment was also good. Fighting continues in the West Asia and the Ukraine. So, bad news out of either region could hit sentiment badly. But many advisories are now upgrading GDP expectations.
The indices have broken out to new all-time highs after rising through the last week. Breadth and volumes have improved with advances outnumbering declines. Technically speaking, almost every signal looks positive.
The market now obviously has bullish trends across all time-phases since it has, by definition, logged higher highs. The breakout above Nifty 7,850 could lead to a target of 8,000-plus. It is impossible to set targets with any degree of confidence, since the index is in a new zone. It has traded quite extensively between 7,600 and 7,840 before the breakout so, an up-move of 200-250 points would not be very surprising. Any corrections will see support kicking in at 50-point intervals, starting at 7,850, just below the current prices.
The Bank Nifty remains a key driver for any sustained trend. The financial index dipped below 14,900 in its last sell-off before it found support at 14,820. It has bounced back all the way till 15,450-plus. There's big resistance at 15,500. But if that breaks, the Bank Nifty could test its lifetime high at 15,750. The rupee is liable to harden now if the FII buying continues. However, dollar demand will arise late next week from PSUs importing crude. An oscillation up to 59.5 looks possible. A strong rupee could however, lead to weak performance from the IT index.
There are a fair number of sessions till the Settlement but there are signs of expiry effects. We are seeing low premiums on option contracts with strikes at little distance from money. Given the breakout, this means that traders are anticipating some correction based on profit booking. Premium on futures contracts versus spot indices is also very low. In fact, the Nifty August futures ended Monday at a nominal discount to spot values. The Nifty's put-call ratios (PCR) have reverted from bearish to very healthy bullish levels. The August PCR and the three-month PCR are both above 1.35. The VIX is also low, which is a sign of lack of fear. The low premiums imply the market is under-estimating the potential for a big move from here.
The option chains also imply traders are not expecting a big uptrend to develop. While there is plenty of liquidity till Aug 9,000c, there is a huge spike in open interest (OI) at Aug 8,000c and another smaller spike at Aug 8,100c. The Put OI is much more evenly distributed with roughly equal OI held at 100-point intervals down to the August 7,300p. The biggest bulge in put OI is at 7,600p.
The spot Nifty index closed at 7,874 with the futures at 7,872 and an all-time high hit at 7,880. An close-to-money bullspread of long Aug 7,900c (48) and short 8,000c (16) costs 32 and pays a maximum of 68. An in-the-money bearspread of long Aug 7,900p (70) and short 7,800p (32) costs 38 and has a maximum payoff of 62. These are very close to money and combining them would lead to a straddle (long 7,900c, long 7,900p, short 8,000c, short 7,800p) with an adverse risk:reward ratio. The payoff is 30 and cost is 70. The breakevens are at 7,830, 7,970. A wider strangle of long 7,800p and long 7,900c can be offset with a short 7,700p (14) and short 8,000c (16). This costs a net 49 with breakevens at 7,751, 7,949.