5.

Trading Strategies Range Bound Markets or Neutral

Markets
In this chapter, we shall look at the strategies that can be implemented in a range bound
market or in situations where you are unsure about the direction in which the markets are
heading.

Strategy 19

Sell One Call Option and Sell One Put Option at a Higher
Strategy
Strike Price

 It is unlimited and depends upon the direction of the

movement of the market
Risk/Earnings
 Your gain is limited to the net premium received for selling
the options
 You exercise this option when you are unsure about the
When do you
markets and enter into options around the market value.
Exercise it?
You can also use this option when the volatility is high
How do you  Since this is about selling a call and selling a put, your
Earn? profits are dependent on the market direction
 Since you sell first, the buy price is dependent on the
How do you lose? market direction and hence we said that the loss can be
unlimited
Example:

This strategy is more about managing the exit time in the volatile and directionless
market. Let us say you sold a Nifty 5000 call on May 6, 2010 expiring on June 24,
2010. You also sell a Nifty 5000 put on May 6, 2010. The premium for selling the call
and the put is Rs. 226 and Rs. 135. Now track the markets and as soon as the markets
fall, exit the call option. When markets recover due to volatility, exit the put option.

Sell a Call Option - LTP Sell a Put Option -

Symbol Date Nifty
@ Nifty 5000 LTP @ 5000
NIFTY 06-May-10 226 274.05 5090.85
NIFTY 07-May-10 201 342 5018.05
NIFTY 10-May-10 298 203 5193.6
NIFTY 11-May-10 231.05 256 5136.15
NIFTY 12-May-10 260.25 247 5156.65
NIFTY 13-May-10 274 235 5178.9
NIFTY 14-May-10 210 277 5093.5
NIFTY 17-May-10 189.4 282 5059.9
NIFTY 18-May-10 193.65 285 5066.2
NIFTY 19-May-10 130 375 4919.65
NIFTY 20-May-10 135 375 4947.6
NIFTY 21-May-10 128.25 375 4931.15
NIFTY 24-May-10 108 380 4943.95
NIFTY 25-May-10 82.1 490 4806.75
NIFTY 26-May-10 107.7 391.95 4917.4
NIFTY 27-May-10 134 318 5003.1
NIFTY 28-May-10 146.05 289.85 5066.55
NIFTY 31-May-10 154.1 269 5086.3
NIFTY 01-Jun-10 103 355 4970.2
NIFTY 02-Jun-10 129 301 5019.85
NIFTY 03-Jun-10 166.9 232.95 5110.5
NIFTY 04-Jun-10 175.5 220 5135.5
 Options –
Selling
Price

Options –
Buying
Price

Strategy 20

Buy One Call Option and Buy One Put Option at a

Strategy
Higher Strike Price

 It is limited to the premium that you paid to buy

the call and the put options
Risk/Earnings
 Your gain is unlimited and depends on the
direction of the market
 You exercise this option when you are unsure
When do you Exercise it?
about the markets and the volatility is high
 Since this is about buying a call and buying a put,
How do you Earn?
your profits are dependent on the market direction
 The losses too depend upon the direction of the
How do you lose?
market.
Example:
This strategy is similar to the previous strategy where you sell both the options first.
Just like the previous strategy, this strategy is also about the timing of the exit from the
contract. Instead of taking decision to sell first, you buy the options first. The other
calculations remain the same.

Strategy 21

Buy One Call Option and Buy One Put Option at the Same
Strategy
Strike Price

What do you
Buy one call option and buy one put option at the same strike price
do?

 The maximum loss incurred is the premium that you have paid
for buying the call and the put option
Risk/Earnings
 Your gain can be unlimited based on the direction of the
market and the quantity of your call option and put option
 You exercise this option when you believe that the markets
When do you
shall be volatile but you are not sure which side the markets
Exercise it?
would move
 Since this is about buying a call and put at the same strike
How do you
price, it is relative calculation, i.e. how much do you gain
Earn?
either by a call or a put which decides you profit
How do you  Similar is the case while calculating how much do you lose in
lose? this strategy

Let us have a practical approach in understanding this scenario.

The following are the details on the call and put for the strike price of 4900 for the
month of July.

Symbol Date Call LTP Put LTP Underlying Value

NIFTY 11-May-10 399 141 5136.15
NIFTY 12-May-10 399 141.2 5156.65
 Symbol Date Call LTP Put LTP Underlying Value
NIFTY 13-May-10 394.7 130 5178.9
NIFTY 14-May-10 358 162 5093.5
NIFTY 17-May-10 307 162 5059.9
NIFTY 18-May-10 327.9 164 5066.2
NIFTY 19-May-10 244 230 4919.65
NIFTY 20-May-10 245 217 4947.6
NIFTY 21-May-10 241 235.2 4931.15
NIFTY 24-May-10 222 226.1 4943.95
NIFTY 25-May-10 182.25 295 4806.75
NIFTY 26-May-10 223 234.45 4917.4
NIFTY 27-May-10 264 180 5003.1
NIFTY 28-May-10 279.4 152.1 5066.55
NIFTY 31-May-10 295 141.1 5086.3
NIFTY 01-Jun-10 229.15 195.65 4970.2
NIFTY 02-Jun-10 264.5 160.5 5019.85

July Call Option for Strike

Price 4900

Call Option,
Purchase
Price
Now let us say that you had been tracking markets from May 11, 2010 till May 17,
2010 and you could not figure out which way the markets were heading for a July call
or a put. You decide to target a strike price of 4900 which you believe will definitely
come into picture in the coming two months. On May 18, 2010 you take a call option
at Rs. 327.9 and a put option at Rs. 164.

July Put Option for Strike

Price 4900

Put Option,
Exit Price

Put Option,
Purchase
Price

Now, you follow the markets closely and observe that markets have been going down
consistently. On May 24, 2010 you think that 4806.75 level of the market is the best
for you to exit the put option as the Nifty is likely to bounce back above 4900 levels,
which was your strike price. So you exit the put option with a profit of (295-164)*100
= Rs. 3100. Now, you had bought the call option for Rs. 327.9 for which now the
premium had plunged to 182.25 following the downfall in the market. Here your loss
was (327.9-182.5)*100 = Rs. 14540. So your net loss is 3100+ (14540) = Rs.
(11,440). Now decide – you are in a loss making situation, but markets are volatile, so
is there a chance for the Nifty to rise above the levels of May 25, 2010? Yes,
definitely. It was with this parameter that you decided to exit your call option. So
wait. Do not exit you call option. Track the markets. The markets remain volatile and
comes May 31, 2010 where the Nifty hits 5086.3. Now watch the premium – Rs. 295.
So now what loss do you make while exiting the call option? It is (327.9-295)*100 =
Rs. (3290). You are still in loss of Rs. 190, because you gained Rs. 3100 from the put
option as against a loss of Rs. 3290 by exiting the call option. Remember the markets
are volatile. Now re-think, can the markets still climb higher levels before July?
Definitely! In a volatile market with about two months to the expiry date in July, if
the Nifty goes higher, you may even cross the Rs. 327.9 price of the premium of your
call option and register the profits. So you have earned on both – a call option and a
put option with no losses. But this requires accuracy in terms of entry and exit and
selection of the strike price. Remember, within no time you had Rs. 3100 in you
hands. If the markets had gained at a similar speed, you could have exited the call
option and made profits out of it.

Strategy 22

Short One Call Option and Short One Put Option at the Same
Strategy
Strike Price

What do you Short one call option and short one put option at the same strike
do? price

 The maximum loss in this case can be unlimited based on the

direction of the movement of the market and the quantity of
the call and the put option
Risk/Earnings

 Your gain in this case are limited to the premium that you
earned on the call and the put options
When do you  You exercise this option when you are bearish on volatility
Strategy 22

Short One Call Option and Short One Put Option at the Same
Strategy
Strike Price

Exercise it? and think that the market prices will remain stable

 As mentioned in the case above, this is also a relative

How do you
calculation based on the quantity of call and put and the
Earn?
directional alignment of the market
How do you  On short call, you loose if the markets rise. On the other hand,
lose? on the short put option, you loose if the markets go down

Let’s get back to the practical scenario to understand this. Remember that you
decided to short a call option so you exit by buying the call option. Imagine the
current market levels are at 4900 level and you short the call option for Nifty – July
5000. This is because you think that the Nifty shall not rise above 5000 and hence,
your short strategy on the call option will work. Now the following is the data:

Symbol Date LTP - Call LTP – Put Underlying Value

Option Option
NIFTY 19-May-10 195 273.4 4919.65
NIFTY 20-May-10 196 257.4 4947.6
NIFTY 21-May-10 192 276 4931.15
NIFTY 24-May-10 175 268 4943.95
NIFTY 25-May-10 141 350.2 4806.75
NIFTY 26-May-10 174.5 274.5 4917.4
NIFTY 27-May-10 196 218 5003.1
NIFTY 28-May-10 215.95 188 5066.55
NIFTY 31-May-10 227 180 5086.3
NIFTY 01-Jun-10 166 238 4970.2
NIFTY 02-Jun-10 202.85 197.8 5019.85

Suppose that you observed that the markets are trading at 4919 level the volatility is
such that you do not think that the markets shall cross 5000 in next two months,
instead it is likely to go down so you go for a short call option on May 20, 2010 at Rs.
196. This is in anticipation that markets shall go below 4900 mark by July. However,
the markets rebound and turn towards 5000. Suppose if instead of June 2, 2010, if
similar is the case when the option nears the expiry in July, you will have to buy a
call above Rs. 200 and that is how you end up making loss. On the other hand you
had short a put option on the same day at Rs. 257.4 assuming that you will register
profits if the markets move up above the strike price of 5000. And then on May 31,
2010 you decide that markets may not move above 5086.3 level and you buy the put
option at Rs. 180 and exit the contract. This generates a profit of (257.4-180)*100 (lot
size) = Rs. 7,740 against a marginal loss of (196-200)*100 = Rs. (400). So, you
effective profit is Rs. 7,340 in just a matter of days!
 July Call Option for Strike
Price 5000

Call
Option
Short

Remember, that you time till the month of July to exit the call option. Thus, you have
time at your disposal to minimize your loss on the shorted call option.
 July Put Option for Strike
Price 5000

The gain would have been even larger if you would have followed and understood
the market carefully and short the put option on May 25, 2010 when the premium
was Rs. 350.2 (encircled and presented by point A). To summarize, with this strategy
you can secure your investment in the options trading in situations where you are not
sure in which direction is the market heading.

Strategy 23

Buy One Put Option with a Lower Strike Price and Buy
Strategy
One Call Option at a Higher Strike Price

Risk/Earnings  The maximum loss the can be incurred is the total premium
paid on buying the call and put option
Strategy 23

Buy One Put Option with a Lower Strike Price and Buy
Strategy
One Call Option at a Higher Strike Price

 The gain in this case can be unlimited is based on the

direction of the movement of the market
When do you  You exercise this option when you are bullish on volatility
Exercise it? but are unsure of market direction.
 This is similar to the long strangle strategy except for the
How do you
fact that the strike prices are different for a call and a put
Earn?
option
 Now you have two strike prices. If for a call option the
market moves away from the strike price, you may end up
How do you lose?
in loss. On the other side, in case of the put option, if the
market goes above the strike price there is a loss.

For instance, you take a call on July Nifty at 5200 and put option for July at 5000.
Then the following demonstrates the strategy.

Call Option – July –Nifty-5200

Date Call Option - LTP Underlying Value

24-May-10 95.55 4943.95
25-May-10 75 4806.75
26-May-10 95.1 4917.4
27-May-10 105 5003.1
28-May-10 115.85 5066.55
31-May-10 122.4 5086.3
01-Jun-10 89 4970.2
02-Jun-10 106.5 5019.85
03-Jun-10 126.95 5110.5
Now suppose you do not know which side is the market doing to swing. But you
believe from the current levels of 4900, it may remain range bound between 5200 and
5000 till the expiry date in July. So you take a call option for 5200 and intend to sell it
 as the market approaches 5200 mark and then exit the put option as the market goes
downward towards the put option strike price of 5000. So you buy a call option on
May 24, 2010 for Rs. 95.55 and then sell it on June 3, 2010 at Rs. 126.95 assuming
that markets may not improve further. So your profit on the lot size of 100 shall be
(126.95-95.55)*100 = Rs. 3,140 in just a couple of days.

Call Option Nifty for July for

5200

Call Option
Exit Price

Call Option
Purchase
Price

On the other hand, you have also taken a put option for 5000 level. This means lower the Nifty
goes from June 3, 2010 level of 5110.5, higher will be the premium and you’ll gain.

Let us have a look at the put option data:

 Put Option – July –Nifty-5000

Date Put Option - LTP Underlying Value

24-May-10 268 4943.95
25-May-10 350.2 4806.75
26-May-10 274.5 4917.4
27-May-10 218 5003.1
28-May-10 188 5066.55
31-May-10 180 5086.3
01-Jun-10 238 4970.2
02-Jun-10 197.8 5019.85

Put Option Nifty for July for

5000

So along with the call option you also bought a put option for 5000 at Rs. 268 on May
24, 2010. Since then if you see the markets had gained and traded about 5000 level
mark on average. But is it all going to be loss? No. The expiry of the contract is in July
and we are still about two months away and if in these two months the markets
 collapse, you can get out of the put option and register your profits. You buy a call
option with higher strike price with an intention to exit if there is an improvement in
the market due to volatility and you purchase a put option with a lower strike price
because the overall market scenario is bearish.

Strategy 24

Short One Put Option with a Lower Strike Price and Short
Strategy
One Call Option at a Higher Strike Price

 The maximum loss depends on the direction of the market

and the market level with respect to your strike price
Risk/Earnings
 The gain in this case is the premium that you earn by
selling the put and the call option
When do you  You exercise this option when you are bearish on volatility
Exercise it? and the markets are likely to remain stable
 We shall take an example to illustrate this situation. But the
How do you crux of this strategy in terms of earning is getting the
Earn? premium by selling the contract first and then exiting the
contracts
 It depends on which side the markets move and the quantity
How do you lose? (lot size and the number of lot sizes) that you buy for the
put and the call option

Now let us take the following example. You are in the month of May when the index is at 5100
level. You presume that the markets shall remain fairly stable and be range bound. So you
implement this strategy and short a call option on May 5, 2010 (for May 5200 @ Rs. 72.8) and a
put option on May 2010 (for May 5000 @ Rs. 64). Now follow the data and the graphs carefully
and see you can benefit from this stance.

Call Option –May–Nifty-5200

Date Call Option - LTP Underlying Value

05-May-10 72.8 5124.9

06-May-10 58.05 5090.85
07-May-10 44 5018.05
10-May-10 94.8 5193.6
11-May-10 61.9 5136.15
12-May-10 66.75 5156.65
13-May-10 72 5178.9
14-May-10 31.9 5093.5
17-May-10 24.8 5059.9
18-May-10 22.15 5066.2
19-May-10 7 4919.65

Put Option –May–Nifty-5000

Date Call Option - LTP Underlying Value

05-May-10 64 5124.9
 Put Option –May–Nifty-5000

Date Call Option - LTP Underlying Value

06-May-10 73 5090.85
07-May-10 108.7 5018.05
10-May-10 37.2 5193.6
11-May-10 59 5136.15
12-May-10 51.95 5156.65
13-May-10 35.25 5178.9

Now start thinking. We have highlighted the selling date (May 5, 2010) figures with
contract exit date in red colored bold font. Now try can calculate your profits. We also
present you the charts that simplify your calculations and help you track the premium
and the Nifty values.

Nifty Call Option – May -

Call
5200
Option
Selling

Call Option
Buying
Price
You exit the call option contract on May 19, 2010 presuming that the market shall
bounce back towards the strike price of 5200 and you register your profit (assuming a
lot size of 100) which is (72.8-7)*100 = Rs. 6,580. On the other hand, you sold a put
option on May 5, 2010 at Rs. 64. On May 13, 2010 you thought the markets were
choppy and would actually get to the strike price level of 4900 and exiting the contract
then would be difficult, so you exit the contract at Rs. 35.25. Here you register a profit
of (64-35.25)*100 = Rs. 2875. In all you have earned Rs. 6,580 + 2,875 = Rs. 9,455.
Now that is quick and smart in a matter of few days!

Nifty Put Option – May -

5000

Put
Put Option
Option Buying
Strategy 25

Sell a Call Option that is Closer to Expiry and Buy One Call
Strategy
Option with a Relatively Longer Expiry Period

 The maximum loss is the premium paid to buy a call option and
the loss caused due to appreciation in market on the call that
Risk/Earnings
was sold in the beginning

 The gain in this case depends on the market levels

When do you  You exercise this option when you are bearish on volatility and
Exercise it? neutral to bearish on market direction
 We shall take an example to illustrate this situation. But the
How do you
crux of this strategy is to earn from short term slide in the
Earn?
market and gain from soaring market in the longer time frame
How do you  It depends on the movement of the market in short term and
lose? long term

Example:

If you are expecting a short term correction in the market, this is the best strategy to go
for even if the current direction of the market is now known. For instance, on May 19,
2010 when the Nifty was at 4919 level, you short a Nifty call for 5100 June at Rs. 87
and buy call for Nifty 5200 for July 2010 at 106.70. With some short time correction
in the market, you gain on the call that you had shorted and you exit that 5100 call
option. On the other hand, you have enough time till July to wait and see if the markets
soar. When the markets start gaining, exit the call option and register the profits.

Track the following data and refer to the graphs for further details:

Buy Call Option - LTP Sell Call Option -

Symbol Date Nifty
@ 5200 (July) LTP @ 5100 (June)
NIFTY 19-May-10 106.7 87 4919.65
NIFTY 20-May-10 104.65 91.5 4947.6
NIFTY 21-May-10 106.7 83.95 4931.15
NIFTY 24-May-10 95.55 70 4943.95
NIFTY 25-May-10 75 51.6 4806.75
 Buy Call Option - LTP Sell Call Option -
Symbol Date Nifty
@ 5200 (July) LTP @ 5100 (June)

NIFTY 26-May-10 95.1 67.85 4917.4

NIFTY 27-May-10 105 85.5 5003.1
NIFTY 28-May-10 115.85 90.85 5066.55
NIFTY 31-May-10 122.4 96.8 5086.3
NIFTY 01-Jun-10 89 59.3 4970.2
NIFTY 02-Jun-10 106.5 77.95 5019.85
NIFTY 03-Jun-10 126.95 101.7 5110.5
NIFTY 04-Jun-10 133.7 107.15 5135.5
Strategy 26

Sell a Put Option that is Closer to Expiry and Buy One Put
Strategy
Option with a Relatively Longer Expiry Period

 The maximum loss is the premium paid to buy the put option
and the direction of the market in the long term
Risk/Earnings

 The gain in this case depends on the market levels and direction
When do you  You exercise this option when you are bearish on volatility and
Exercise it? neutral to bearish on market direction

How do you  The crux of this strategy is to earn from short term gain in the
Earn? market and gain from falling market in the longer time frame

How do you  It depends on the movement of the market in short term and
lose? long term

Example:

This is an exactly reverse case as that of the previous one. With slighter gains in the
market towards the end of the expiry, you make money from the put option that you
had sold and you give yourself sometime to stay invested in the put option that you
had bought as its expiry is away by about two months or so.

Strategy 27

Buy a Call or a Put Option which is not too far away from the
Strategy
Strike Price

 The maximum loss is the premium paid to buy the put option or
the call option
Risk/Earnings

 The gain in this case depends on the market levels and direction
Strategy 27

Buy a Call or a Put Option which is not too far away from the
Strategy
Strike Price

When do you  You exercise this option when you are bearish on volatility and
Exercise it? unsure about the market direction

How do you  The timing of the exit from the contract is the deciding factor
Earn? for making profits

How do you  It depends on the movement of the market and your timing of
lose? the exit

Example:

In a scenario where the markets are likely to be range bound, we suggest that the call
options with less than a 60 day expiry should usually not be “deep out of the money,”
which means it should not be the case that an option with a strike price that is
significantly above (for a call option) or below (for a put option) the market price of
the underlying asset. To illustrate this further, let us say that you buy a Nifty 5400
July call in May when the market is at 4900, the chances that the markets will move
to 5400 levels in 2 months is low and as time passes, the time value of the option
erodes and so any gains on the index still leave the stock price where it is and you do
not benefit. Instead, take a 5100 call for next two months and as soon as the Nifty
level reaches the 5100 mark or slightly below it, exit the call option. This is because
in case of call for 5400 mark, it takes time for the Nifty to get there by which the
premium will get eroded due to time. So we advise to take a 5100 call instead of a
5400 call option.