Greece crisis: Heavy put buying by FIIs hints market rally may not last

MUMBAI: The recent rally in the market might not sustain if the quantum of outstanding protection bought by foreign institutional investors (FIIs) is any indication.

Fears of a potential Greek exit from the Euro area and adverse political fallout from the Lalit Modi expose pushed the net outstanding purchases of index put options by FIIs to 11.01 lakh contracts on Tuesday — a quantity not seen during times of uncertainty in the past and probably around the highest ever.

“Some in the markets believe the recent rally has legs, but others, particularly few FIIs, feel that though it has legs the rally might not sustain, which has caused them to hedge their underlying portfolios by net buying puts aggressively,” said UR Bhat, director, Dalton Capital Advisors. “A possible Grexit (Greek exit from the Euro area) and political events back home have them worried.”

During earlier periods of uncertainty, net put options outstanding – which protect the value of a buyer’s underlying portfolio in case the market tanks — were way lower. For instance, on January 4, 2014, when political uncertainty pushed the Nifty to the year’s low of 5,933, net outstanding puts were 5.14 lakh contracts, according to ETIG database. Even on July 8, 2014, days before FM Arun Jaitley’s interim Budget, when the Nifty tanked by 164 points to 7,623.20, the net outstanding puts were 3.13 lakh contracts.

Benchmark indices — Sensex and Nifty — have rallied about 5.5% in the last couple of weeks after falling as much as 13% from their highs in March. Bhavin Desai, derivatives analyst at Motilal Oswal, feels the very rise in the quantum of ‘such protection’ could possibly cap the recent rally. “The net outstanding put purchases indicate FIIs are being overly cautious amid the Greek drama playing out and the flurry in the political landscape caused by the Lalit Modi episode,” said Desai.

FIIs have been sellers in May and June. So far in June, these investors have net sold shares worth almost Rs 3,000 crore. But in the same vein, Desai believes the cautious mood among FIIs, reflected in the build up of put positions, could avert sharp declines.

“It’s this very caution that could prevent the market from going into a tailspin if something adverse happens, like Greece leaving the Euro area. In fact, a big fall’s more imminent when caution is thrown to the winds. That’s not the case now.”

Yogesh Radke, vice president, institutional equities, Edelweiss Securities, counters the view that such put option purchases could pre-empt a sharp fall. “Look at the value of the puts purchased in relation to the outstanding FII cash market holding and you’ll find it’s miniscule, less than even 10%,” he said. “That’s hardly the cover desirable for such a huge portfolio.”

Bhat agreed, saying that the value of puts bought was negligible compared to the value of underlying shares held by FIIs. “It’s quite likely that many FIIs have not hedged themselves by purchasing index puts. So, while those who have hedged themselves would be protected, it’s probably unlikely that others who haven’t will not press the ‘sell’ button.”

ETIG Database shows that the value of the 11.01 lakh puts outstanding at Nifty closing (8381.55) on Tuesday is a measly 2.8% of the Rs 8.2 lakh crore worth of shares held by FIIs since 1991-92.