India’s most volatile Index, Bank Nifty futures triggered a massive upswing today. The index plunged 2,400 points in the last week and registered a low of 39,598. It’s good to see Bank Nifty fall 2,400 points and then bounce back sharply by 1,960 points over a period of 4 trading sessions. Wouldn’t it be interesting if you knew when the index will fall and at what point will it turn around? Today’s bounce back triggered one such contrarian swing opportunity. However, the question is, is it possible to first catch the fall of 2,400 points and then enter today’s upswing of 1,960 points? The answer is a Big Yes. Let’s discuss.
Options Counterpoise to Catch Big Moves
In simple words, Options Counterpoise is a mathematical calculation used by institutional traders during live market hours. This method accurately captures options inefficiencies for specific option strikes at time “t”. The biggest advantage of options counterpoise is it pinpoints the trend of a derivatives contract accurately. Surprising as it might sound, this derivation of the BSM differential equation is completely risk free.
How Institutional Traders Use This Method
The institutional traders think like bookies. Let us assume two horse’s “A” and “B”. in a race at time “t”. There must be only two possibilities here. Either “A” will win the race or “B” (Stale mate is not an option). Let us assume, that the market maker has all the inside news. He knows that horse “A” has 80% probability of winning and people are willing to pay INR 500. On the other hand, the odds of “B” winning, is 20%. So, people are willing to pay just INR 100. Based on inside information, the market maker sets the odds at 1:4. Let is keep in mind that this is exactly the case of news-based trading.
Horse “A” wins
The bookie must pay back INR 500, plus Rs.125, which is a total of INR 625. However, we know that the bookie had collected INR 600 in the beginning (INR 500+INR 100). So, his net P/L is loss of INR 25 (600-625). Let us keep in mind that he had all the news and still lost money.
Horse “B” wins
The bookie must pay back INR 100, plus INR 400, which is a total of INR 500. However, we know that the bookie had collected INR 600 (INR 500+INR 100). So, his net P/L is a profit of INR 100 (600-500).
We learned that if the market maker trades based on news, they can lose money, even if they have inside information. So, it is fair to conclude that the institutional traders avoid news and use options counterpoise. Thus, they make money consistently, as this method is risk free.
Catching today’s Upswing
In the past one week, Bank Nifty fell 2,400 points. Today is not the first time that the institutional traders started wrapping up their shorts (In Monday’s newsletter, 27th Feb 2023, I had mentioned about possible short covering).
Institutions started buying right from Monday and avoided any sudden rally to keep retailers trapped in shorts. Based on the institutional positions and the counterpoise range, we wrapped up our shorts also and went all out for the upswing. So, we followed the footsteps of the market maker and created multiple spreads with 40,000 PE, 40,200 PE, 40,500 PE (9th March 2023 Expiry). Thereafter Bank Nifty witnessed a wild swing and registered a high of 41,560. 40,200 PE was scalped with selling at an average of INR 92 and covering at INR 49. While premium traders have already caught the movement, retailers will now wait for open interest data.