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By Rathina SabapathyMUMBAI: Those keen on punting on IDBI Bank could do so through a simple options strategy called ‘bull call spread’ to reduce risk rather than buying plain vanilla futures or a naked call option on the counter, derivatives analysts said.
Huge buying interest was witnessed in IDBI derivatives on Friday after insurance regulator IRDAI signalled its approval to LIC raising its stake up to 51 per cent from 10.82 per cent in the beleaguered PSU lender.
The buying was borne out by traders increasing their outstanding positions — open interest (OI) — by 36.82 per cent across futures and options contracts on IDBI Bank which rose 10 per cent to Rs 55 after the regulator’s approval.
This relative increase was the highest among all stock derivatives traded that day.
Analysts have said this could possibly prompt retail level buying on the IDBI FO counter for potential gains of 13 per cent this month from Friday’s close of Rs 55.
However, rather than risk their capital by purchasing futures or simple call option, traders suggest purchasing a 55 strike call and simultaneous sale of the 60 call.
Both calls expire on July 26.
Assuming Friday closing prices per share (10,000 shares equal one contract) the 55 call is worth Rs 3.9 a share and the 60 call Rs 2.10.
Selling the 60 call reduces the price of the 55 call to Rs 1.8.
This is the maximum a trader can lose and happens if IDBI remains at or below 55 in the current series.
The maximum gain is Rs 3.2 apiece and happens if IDBI closes at Rs 60 or higher.
At contract level, the maximum loss works out to Rs 18,000 and the maximum profit Rs 32,000.
The risk-reward is 1.77:1.
While the sale of the 60 call reduces the risk in the strategy it also caps the profit.
For example, if IDBI Bank expires at Rs 65, the 55 strike call will be Rs 10 in-the-money and the 60 call Rs 5.
So, after paying Rs 5 a share to the 60 call buyer the trader will be left with a gross gain of Rs 5.
However, since he paid Rs 1.80 to initiate the strategy, the net gain (ex-brokerage and tax) will be Rs 3.2.
“The safe bet in a stock like this with high leverage (10,000 shares in one contract) is bull call spread,” said Chandan Taparia, derivatives analyst, Motilal Oswal Securities.
Ashish Chaturmohta, derivatives head, Sanctum Wealth Management, adds that high implied volatility makes plain vanilla options buying risky in case of IDBI Bank.
He also says that those with a bullish view on IDBI Bank would be better off doing a bull call spread rather than buying naked calls or futures on the stock.
The put-call ratio on IDBI Bank July options declined to 0.45 Friday from 0.62 a day earlier, indicating huge call selling to meet the trader demand.
The implied volatility of the options ranged from 60 per cent-200 per cent.
This indicates options writers are cushioning themselves adequately to protect themselves from spikes in the stock eitherside which can expose them to unlimited risks.
