With this expectation, clients are being advised to buy a Nifty call at 13,500 and sell two Nifty calls at 13,700, to sharply cut the 13,500 call cost. Option strikes are at 50-point price intervals — 13,500, 13,550, 13,600, etc. — from each other.
A call buyer expects the market to rise above the strike purchased plus premium paid, while a call seller expects the market to stay below the strike price sold plus premium received from the call buyer. A buyer pays a premium to the seller for the option.
In the present strategy, the client buys a marginally out-of -the -money (OTM) option and sells two deeper out-of-the money options. In call option terminology, OTM means an option whose price is above the market price. Nifty closed at 13,466 Wednesday. So, for the buyer, 13,500 is 34 out of the money from 13,466. Similarly, the 13,400 call is in the money (ITM) by Rs 66 based on the closing at 13,466.
Using Wednesday closing rates, the 13,500 call costs the client Rs 150 a share (75 shares make one contract) while the 13,700 call costs Rs 64. Buying a 13,500 call involves outflow of Rs 150, while sale of two 13,700 calls fetches the client Rs 128. This Rs 128 inflow reduces the debit of the 13,500 call to just Rs 22 (Rs 150-Rs 128).
This Rs 22 is the maximum a client loses if the Nifty expires at 13,500 or below on December 31. The client’s profit begins above 13,522 and runs through 13,700, at which the maximum profit of Rs 178 accrues. Since the client sold two 13,700 calls, the profit of Rs 178 drops steadily from 13,700 through 13,878, the point above which unlimited loss begins.
At 13,700 expiry, the 13,500 call is 200 OTM. The client receives Rs 200 from the seller of the 13,500 call. Since her debit was Rs 22, the net gain is Rs 178. The two sold 13,700 calls expire worthless. However, if the Nifty closes at 14,000, the 13,500 call adjusted for the debit is in the money by Rs 478. The two sold 13,700 calls are ITM by Rs 600 . The loss for the client is Rs 122. At 13,878, the upper breakeven point — the 13,500 call adjusted for debit is ITM by Rs 356. The two 13,700 calls are also worth Rs 356, resulting in no-profit no-loss.
Chandan Taparia, analyst at Motilal Oswal Financial Services, has recommended the strategy to his brokerage’s clients. Rohit Srivastava, founder, IndiaCharts, termed the strategy “sound” given the upside expectation through 13,777.