loader2
Partner With Us NRI
Download iLearn App

Download the ICICIdirect iLearn app

Helping you invest with confidence

Open Free Demat Account Online with ICICIDIRECT

Which option strategy will be best for a range-bound market?

25 Sep 2022 0 COMMENT

Introduction

In a range-bound market, the price of a stock bounces back and forth. It creates identical, or nearly identical, highs and lows, establishing a lower support level and an upper resistance level.

The upside potential of trading in a range-bound market may not be exciting for a trader looking to ride on a trend. But the relative predictability of these highs and lows indicates the opportunity of earning money, though in smaller quantities.

What is a range-bound market?

When an index or stock trades between a support level and resistance level, it is known as range-bound. Support level refers to a price level from which an asset does not fall below over a period. Resistance level refers to the price at which an asset meets pressure while rising. It is short-lived and caused by an increasing number of sellers desiring to sell the security at that price.

The price movement in a range-bound market is not strong in any direction. The prices move close to the old highs and then drop to prior lows. The range-bound movement trend breaks when a significant move has ended the existing support and resistance level. At this time, the bears and the bulls try to dominate the direction of the next movement.

Identification of a range-bound market

To identify a range-bound market, you can utilize the technical or FNO indicators. Indicators like ADX, Bollinger Bands or PCR etc. can be used to identify the range-bound market.

1. ADX indicator:

When the ADX is below 25, the market is said to be ranging. As the ADX value rises to cross 25, it indicates that the market is ready to step into a trend phase - bullish or bearish.

2. Bollinger Bands indicator:

Volatility is low when the bands (14 periods with Standard Deviation 1) are thin and contracted. The price does not move a lot in one direction. But with expansion in bands, volatility increases, and there are chances of the price moving fast in one direction.

3. Index PCR OI:

It is a period of the range-bound market when the PCR OI ranges between 0.95 and 1.05.

Additional Read: Options Module

The best option strategy for the range-bound market

Iron Condor strategy

For establishing an iron condor, a trader would sell both an out-of-the-money (OTM) put and call, and at the same time, buy a further OTM put and call. The maximum profit in this strategy is limited to the net premium received. The maximum loss could be the difference between the two call or put options strike price minus the net premium received.

Short Strangle or Straddle

In Straddle, the trader shorts an ATM call and put option.

If traders expect a broader range, they can short OTM call and put options. In both strategies, profit is limited to the premium received, while a loss could be unlimited.

Last words

A phase of price consolidation is known as a range-bound market in which the price of a stock undergoes sideways movement. There are many indicators to help you identify a range-bound market. Iron Condor and a Straddle or a Strangle could be good strategies for a range bound market. Investors and traders must apply an option strategy in the market only after understanding their risk.

Disclaimer: ICICI Securities Ltd. (I-Sec). Registered office of I-Sec is at ICICI Securities Ltd. - ICICI Venture House, Appasaheb Marathe Marg, Prabhadevi, Mumbai - 400 025, India, Tel No : 022 - 6807 7100. I-Sec is a Member of National Stock Exchange of India Ltd (Member Code :07730), BSE Ltd (Member Code :103) and Member of Multi Commodity Exchange of India Ltd. (Member Code: 56250) and having SEBI registration no. INZ000183631. Name of the Compliance officer (broking): Ms. Mamta Shetty, Contact number: 022-40701022, E-mail address: complianceofficer@icicisecurities.com. Investments in securities markets are subject to market risks, read all the related documents carefully before investing. The contents herein above shall not be considered as an invitation or persuasion to trade or invest.  I-Sec and affiliates accept no liabilities for any loss or damage of any kind arising out of any actions taken in reliance thereon. The contents herein above are solely for informational purpose and may not be used or considered as an offer document or solicitation of offer to buy or sell or subscribe for securities or other financial instruments or any other product. Investors should consult their financial advisers whether the product is suitable for them before taking any decision. The contents herein mentioned are solely for informational and educational purpose.