Derivative bets fall as markets await potential India-US trade deal

The lower positioning suggests markets could either surge to a fresh high or see profit booking depending on whether a trade deal is struck between the world’s largest and fourth-largest economies.

Analysts anticipate a Nifty range of 23,200-29,000 for next year, depending on the outcome of the India-US trade negotiations. That implies a 10% pullback or 12% rally from Tuesday’s close of 25,884.8, depending on whether negotiations succeed or fall through.

Nifty futures rollovers to December from the November series stood at 69% against the three-month average of 81%, per data from IIFL Capital Services. Market-wide rollovers, including Nifty and Nifty Bank index and stock futures, were more or less in line at 91% versus the three-month average of 92%.

Nifty Bank futures rolls were relatively muted at 71% against the three-month average of 80%, while stock futures rollovers were in line with the three-month average at 94%, per the brokerage.

Rollovers, aside from cash market activity, signal the mood of investors and traders ahead of significant events. Just as investors buy or sell stocks in the cash market, they take cover or speculate in the derivatives segment through stocks and indices such as Nifty and Nifty Bank futures and options (F&O).

Futures are either squared off or rolled over from one month to the next, while options expire in profit or become worthless. Nifty expires on the last Tuesday of every month. Higher rollovers indicate a stronger bullish or bearish trend, while lower rolls suggest lack of conviction or clarity.

“The rollovers of Nifty and Nifty Bank indicate a wait-and-see mode by investors and traders ahead of the India-US trade deal and the Fed rate decision next month," said Shrikant Chouhan, head of research at Kotak Securities.

Trade deal overhang and valuation math

Pending a trade deal, the current valuation of Nifty stands at 18x FY28 earnings – Nifty earnings per share at ₹1,450 for FY28 against the index’s current price of around 26,000. The historic valuation band is 16-20x.

At 18x, if there is no trade deal, the market could hit the lower end of the valuation range, indicating a level of 23,200 by the end of next year. If there is a deal, the Nifty could test 29,000 (20x) by 2026 end, per Chouhan’s calculations.

Data from IIFL’s report shows that FPIs cut cumulative index futures shorts by 67,000 contracts on Tuesday, taking their net shorts on Nifty and Bank Nifty futures to around 94,689 contracts as of Tuesday.

“If the US Fed cuts the benchmark interest rate at its meet next month, it could result into fresh FPI flows into emerging markets, including India, and cushion the rupee fall," said Madan Sabnavis, chief economist, Bank of Baroda.

FPI positioning and the case for a rebound

Foreign portfolio investors have sold cash shares worth a record $24.5 billion ( ₹2.15 trillion) so far this calendar year, contributing in part to the rupee’s 4.16% decline to 89.19 to a dollar on Tuesday from 85.62 at the start of the year, as per data from National Securities Depository Ltd.

Their selling has been absorbed by domestic institutional investors (DIIs), who have net purchased a record ₹6.94 trillion this calendar year.

Gaurav Arora, head of research, SAHI, a new-age broking platform, expects a trade deal to spur fresh cash buying by FPIs and short covering or closing out of their negative index futures shorts. Their long-short ratio stands at 15%, implying short positions at 85% and bullish bets at only 15%.

Buying by FPIs, who have largely been sellers since September last year, along with continued mutual fund buying could result in a speedy rally for Indian shares, which have underperformed global markets until recently. The Nifty has failed to reclaim its high of last September, sputtering above the 26,100-26,200 level this month, despite the US S&P 500 of scaling successive highs this year.

Arora expects the Nifty to trade in a 25,500-26,500 range in December, with an upside bias amid hopes of a trade deal being announced. “Any dip towards the lower end of the range should be a buying opportunity," Arora said.

The Nifty hit a record high of 26,277.35 on 27 September last year, before plunging 17.25% to 21,743.65 on 7 April on account of global trade tensions and slowing corporate earnings growth. From the multi-year low, the index jumped 19% to Tuesday’s close of 25,884.8 on DII buying.