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Foreign institutional investors go for stock futures, junk arbitrage

FIIs ave been unwinding their positions. They have been buying stock futures and selling in the cash market.

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F&O safe haven, index futures, see a blizzard of activity.

MUMBAI: Foreign institutional investors (FIIs), who are large cash-futures arbitrageurs, have been unwinding their positions. They have been buying stock futures and selling in the cash market.

This is because, currently, the cost of carry is negative, and with the dollar strengthening, there is no arbitrage opportunity. If the rupee dips further, it means the FIIs lose that much more. So they are closing out their arbitrage positions and going for stock futures.

FIIs have been selling index futures while buying stock futures. They are taking directional calls on the broad market, while closing out arbitrage positions in stock futures. FII will continue to use index futures for directional trades.

Not surprisingly, it was mostly Nifty futures in the derivatives market on Thursday, even as the underlying index fell over 6.8%.

There’s a reason for this: In times of high market volatility, activity tends to get concentrated in index futures as traders, speculators, and hedgers find it the most convenient vehicle to take short-term views.

Also, liquidity is high and impact cost is low, leading to efficient execution of views.

Nor surprisingly, Nifty futures recorded its highest ever turnover of Rs 19,585 crores, accounting for 44% of the total derivatives market turnover of Rs 44,907 crores.

Meanwhile, the market fall led to the Nifty futures going into a steep discount to the underlying as speculators shorted the market and hedgers sold Nifty futures in panic. The Nifty futures saw open interest increase by 6.9% over Wednesday as short positions were built. Nifty index futures is expected to see high activity in the coming days as market volatility remains high. The expiry of May series contracts next week will add on to the volatility as market starts executing rollover of positions into June series contracts.

Given the market conditions, the rolls are expected to be short rolls i.e short positions in May series are liquidated and fresh short positions in June series are created.

This essentially requires May series contracts to be bought and June series contracts to be sold. Short rolls will lead to discounts in the June series widening. Nifty options saw huge gains in puts as implied volatilities shot up. Nifty put option premiums gained sharply with May 3500 put seeing premiums mover up from Rs 16 to Rs 182 a gain of around 1200% over a day.

Implied volatilities in Nifty puts increased from 30% levels to 73% levels as the markets tanked. Higher volatilities lead to increased premium levels. Calls across strikes lost around 75% with implied volatilities moving up from 33% levels to 47% levels. Implied volatilities are expected to remain high leading to high premiums in Nifty options.

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