'Bank Nifty trading near support area, deploy Iron Butterfly this week'

Strategy setup - Iron Butterfly in Bank Nifty

Bank Nifty nosedived by more than 700 points On September 21. Bulls were having a cautious stance for the past few weeks and profit booking could be seen on every rise.

In the current week, traders can expect the prices to take a breather after a recent fall as the index is trading near support levels. Although, the overall structure has turned weak but mild bounce-back can be expected from current levels. The sharp fall has inflated the Vega of options and resulted in high premiums, which is likely to settle down in the next few days.

The traders can opt for a trading strategy that could provide a return in sideways as well as in a slow-moving market on either side. To trade the setup, Vega and Theta depreciating based "Iron Butterfly" strategy can be deployed where at the money (ATM) Call and Put option can be sold to gain the premium amount and out of the money Call and Put option can be bought to cap the risk on both the sides.

Option chain analysis

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Chhitij Jain

Head of Derivatives|Rudra Shares & Stock Brokers

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Considering the close of 21,366.80, the ground zero for the banking index is 21,400 or the index is at the money at this level. To gauge the very short term sentiments, the activity in ATM options can be analyzed. The call option of 21,400 strike price holds the cumulative open interest of approximately 4,790 contracts whereas the put option of the same strike price holds the cumulative open interest of around 5,650 contracts.

The data looks neutral for the very short term as there is no major dominance of bulls and bears. Though the bearish bias can be observed by looking at immediate higher and lower strike prices options, where the call option of 21,500 strike price has added fresh open interest addition of more than 11,380 contracts the put option of 21,300 strike price has witnessed the fresh open interest addition of around 24,00 contracts only.

One of the major concern is the unwinding of around 3,900 contracts in a 21,000 put option which suggest that the support is getting weaker. The short term resistance is shaping up at 22,000 level where call option of the same strike price has witnessed fresh open interest addition of around 20,500 contracts. On the other hand, the support level exists at the 20,500 level with a decent cumulative open interest.

Technical structure

The structure has turned weak as prices are trading below all major short term and medium term moving averages and momentum indicators have started trading in the bearish zone. The RSI has started trading in negative territory for the first time after May 2020.

Despite all these negative developments, the swing low of August (21,031.45) is likely to act as a cushion for the index and a halt can be seen in selling pressure for a time being. The range of 21,900 to 21,980 is likely to act as a resistance for the coming days and selling pressure can be expected at higher levels.

Trading strategy

Having a glance at the overall structure it can be said that an ongoing momentum might slow down and bears could take a breather for time being. The inflated option premiums suggest “Vega” and “T heta” depreciating based “Iron Butterfly” can be deployed for the latest trading week.

Sell Bank Nifty 21,400 PE @ 364
Sell Bank Nifty 21,400 CE @ 257.25
Buy Bank Nifty 22,000 CE @ 83
Buy Bank Nifty 20,800 PE @ 135
Expected gain - 403.25 (subject to theta decay)
Maximum risk - 196.75 Points

The strategy would provide a maximum return if the banking index expires at 21,400. The strategy would enable the trader to make a profit in the sideways market and can also absorb the limited move on either side.

Note - Option premium mentioned resembles the last traded price as on 21st September for September 24 contract.

(The author is Head of Derivatives at Rudra Shares and Stock Brokers.)

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