This week, the Nifty 50 index closed in the red for the 4th straight week as selling pressure is still going on. The last time this happened was in April 2022 when we witnessed 5 weekly losing sessions in a row.
Two conclusions can be drawn from this data - First, the short-term trend is still bearish, and second, the market might also give a bounceback after 4 negative weeks. So, what’s a good way to trade in this confusion? A direction-neutral strategy.
For the current 24 August 2023 weekly expiry, options traders can deploy a short strangle strategy on the index to benefit from time decay while still having some room for index movement on both sides.
Image Description: Daily chart of Nifty 50 (spot)
Image Source: Investing.com
To me, the best strikes from a risk-to-reward (R:R) perspective seem to be 19100 PE and 19500 CE. The current spot price is at 19,310.15, therefore, these strikes will give an equal room of 200 points on both sides. This simply means choosing these strikes will keep the delta neutral which is essential for a range-bound strategy to steer clear from losses arising out of directional movement.
As per Friday’s closing, the 19100 PE closed at 28.15 and the 19500 CE closed at 16.65. So essentially, we are fetching a combined premium of 44.8 (28.15+16.65) and as long as the index expires between our 400-point range (19100 to 19500) we get to keep the entire premium as our profit.
Because we have received a premium of 44.8, our breakevens on both sides are extended by this amount, i.e. 19,055 on the downside (-1.3% from the spot) and 19,545 on the upside (+1.2% from the spot).
The max profit potential is INR 2,240 per lot (44.8 x 50), however, the max loss is unlimited (beyond the breakeven levels discussed above). There are countless ways to manage the risk-to-reward but I will discuss a simple one without requiring any adjustments.
Initially, the stop loss will be 100% of the max profit, which is INR 2,240. If the combined loss on this strategy touches this mark, an exit can be made from both strikes. This ensures our R:R does not fall below 1:1.
Once the MTM increases to 50% of max profit, i.e. INR 1,120, traders can think of trailing their SL to break even, making it a no-loss strategy. At 75% MTM, i.e. at INR 1,680, profits can be booked. Risky traders can hold on to 100% profit if the market remains stable, however, that is not recommended for less-experienced traders due to increased gamma risk.
The total margin required for this strategy is around INR 1.17 lakh, which translates into 1.9% ROI (at max profit) in the next 4 days.
Disclosure: I have multiple positions in Nifty 50
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