Last week, we published an article that I wrote about how the Bank Nifty trades prior to the Union Budget. In this article, I discussed that the major indices – the Bank Nifty in particular – tend to be volatile not just on the Union Budget Day, but also on the surrounding days. Over the last 10 years, including four interim budgets, the Bank Nifty has seen a wide range of movements on the budget day itself: -3.28% to +8.26%. These returns are from the market close on the day prior to the market close on the day of. The column named “-5 days” displays the cumulative returns in the 5 days leading up to the budget day. Similarly, the column name “+3 days” displays the cumulative returns in the 3-day period after the budget day.
As traders, if we think that the markets are going to be volatile, and implied volatility hasn’t risen, then purchasing a straddle could be a viable options strategy. I examined how Bank Nifty straddles performed over the last several years. I looked at the returns of various entry dates and either exiting the day prior to the budget or the day of the budget. By exiting on the day prior, you avoid the implied volatility crush. However, you potentially miss out on any price volatility occurring on the event day.
Here are those historical data points:
How did long straddles perform this year?
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Enter 5 Days Prior | Exit Day Prior: 12.8% Return
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Enter 5 Days Prior | Exit on Budget Day: -3.9% Return
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Enter 3 Days Prior | Exit Day Prior: -8.6% Return
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Enter 3 Days Prior | Exit on Budget Day: -21.8% Return
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Enter 2 Days Prior | Exit Day Prior: -5.4% Return
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Enter 2 Days Prior | Exit on Budget Day: -19.3% Return
So, as with historical years, the long straddle strategy performed better if you exited prior to the Budget Day to avoid the negative impact of falling implied volatility. This year though, the strategy worked best by purchasing further out as implied volatility was generally high leading into the budget and didn’t increase much immediately prior.