Trading is always about seeing the whole picture by combining the risk-to-reward ratio and the probability of winning.
After a stupendous rally in the previous session, the Indian benchmark Nifty 50 index continued its run and touched a historic 23,000 mark today, by 9:48 AM IST. While the market breadth seems quite positive, there are a few sectors that are witnessing profit booking.
As Nifty 50 moved 1.64% yesterday, which is a big deal for any large-cap index, a slight consolidation is expected for the next few sessions, maybe till the May 2024 monthly expiry, especially when the major trigger – election outcome is still a few days away.
Here’s an options strategy to explore before the major trigger:
The broader trend direction is clearly upwards therefore we will keep some further room for a potential continuation of the rally. This means, going short on 23,400 CE, leaving a further 400-point potential till the strategy incurs a loss.
Because short options have a theoretically unlimited loss potential, traders are advised not to leave this position unhedged. Going long on 23,600 will make sure the losses are capped to a certain extent. This combined 2-legged strategy is known as a Bear Call spread which is used to capitalize on a downward/sideways move with some room for an unexpected rally.
Because this is a hedged strategy, the risk is limited. As per the current market price of the above options (INR 35 – 23400 CE & INR 15 – 23600 CE), the maximum loss a trader can incur is INR 4,500 per lot (when the index hits 23,600).
The maximum profit is capped at INR 500 per lot (when the index stays below 23,400 on the expiry day).
The risk-to-reward is 9:1 which might look pretty bad, however, the statistical probability of this trade ending in the green is a good 85%.
Trading is always about seeing the whole picture by combining the risk-to-reward ratio and the probability of winning. And not to forget, the margin on this trade is around INR 17,000, which gives a maximum profit potential of a healthy 2.9% in less than a week.
Aayush Khanna is a seasoned market analyst with an MBA in Finance and a CMT-L1 certification. With extensive experience in stock trading and a background working with both Indian and global audiences.