It’s been quite an amazing rally in last one month from support at 5,200 levels. Before we step into our outlook on the market, it’s essential to understand the actions of various participants as the market continued its strong momentum before finding some resistance around 5,800 levels.
How foreign institutional investors (FIIs) have been buying equities and its impact on the appreciation of the rupee have been widely discussed, and are the primary reasons for this upsurge in this market. FII flows don’t come by chance. Before we could see equity markets across the globe rallying, the leading indicator of crude oil had shown signs of recovering from lower levels and US bond yield was also bottoming out, suggesting investments in debt would not have been attractive. And, indeed, that was the case. Bond yields of Italy and Spain took resistance at higher levels and were reluctant to go up. This meant the markets (read FIIs) had already sensed QE3 coming. To cut things short, FIIs, which we call stronger hands of the market, are now long in our markets and continue to buy in the cash segment.
On the other hand, domestic participants, especially direct retail and high net worth individuals (HNIs), have been busy in options trade settling for meagre profits through huge turnover good news for brokers. Also, the same participants which might have invested around June-August 2011 in mutual funds and portfolio management services (PMS) saw their net asset values (NAVs) returning to the entry level and hence redemption pressure was seen clearly in the domestic institutional investors’ (DIIs) sell figures. We believe DIIs’ sell figures are the result of of forced selling due to redemption and not because Indian fund managers are bearish. In short, retail or weaker hands of the market, are selling in this market.
Clearly, the Indian equity is changing hands moving from weaker hands to stronger hands. In such a scenario, expecting a huge correction will certainly lead to disappointment. This is from a medium-term perspective. From the very-short-term, or say, expiry perspective, there are some interesting observations.
There has been huge build-up in MINIFTY futures. In the last seven to eight trading sessions in which the market has remained in the 150-200 points range, this small contract of the Nifty has doubled its open interest (OI). On October 10 and 11, we saw significant rise in OI with rising cost of carry, indicating more long formation. And in the last two to three trading sessions, we saw FIIs book profits on their long index futures positions. Also, weaker hands seemed to have accumulated out-of-money calls for this series.
This is not a threat to the upward trend but certainly suggests that we could hover around these levels for some time, may be for the rest of the series. Those who are positional traders should not short this market and buy on dips. One strategy, which we are suggesting at this point, is ratio put spread in Nifty, which would have a break-even point around 5,500, below which we don’t see the market. And against this strategy, one can take stock-specific longs; but stick to large-caps.
Markets are on solid ground but resumption of momentum could take time.
The author is head (equity derivatives), Angel Broking