The Hindu Business Line : M&M: Outlook positive, buy May futures

Buy May futures. The farther-month contract trades at 3-point premium to the spot price. Initiate the position with spot-market-stop-loss at Rs 469. This exposes the position to 10-point downside risk. The position has to be traded with trailing stop-loss to control this risk. The minimum order size is 625 units. The margin on the long futures position is approximately 18 per cent of the contract value.

As an alternative strategy, traders can construct long bull call-spread. This can be initiated with long May 480 calls and short 500 calls. The position can be set up for a net debit of 9 points. The spread is subject to vega risk because the options are trading rich. Note that the maximum loss on the call-spread is marginally lower than the initial stop-loss on the futures position.

A long bull-butterfly would be an optimal option strategy but cannot be initiated because deep out-of-the-money farther-month options are not traded yet.

BoB: The stock closed at Rs 234 in the spot market. The outlook appears positive. The upside price target is Rs 262.

Buy May futures. The farther-month contract trades on par with the spot price. Initiate the position with spot-market-stop-loss at Rs 224. This exposes the position to 10-point downside risk. The downside cannot be hedged with horizon-matching puts because options on the stock are not actively traded.

Note that selling May 250 out-of-the-money calls to lower the downside risk is not optimal. The futures-covered-call-write will only provide 7-point downside protection but will limit the upside.

The risk-reward ratio is therefore not favourable.

The futures position has to be traded with trailing stop-loss. Otherwise, the downside risk will be high because the contract-multiplier is 1,400 units.

The margin on the long futures position is approximately 23 per cent of the contract value.

Alternative strategies are not available on this stock.

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