Short covering play: Nifty target 16800-17000

Historical evidence suggests limited downside:

The unabated FIIs’ selling seen in secondary markets is one of the highest ever seen in Indian equity markets. However, on the F&O front, the aggressive shorts we have seen in the May series are one of the highest seen since 2018 (exception being Covid related selling in March 2020). We have observed net short exposure (index future) above 1 lakh contracts near the bottoms. It resulted in meaningful short covering. We expect similar action this time as their short exposure was above 1.22 lakh contracts. In the last few sessions, the early trend of short covering was observed

FII’s long/short ratio near multiyear lows:

There was no respite for Indian equities as the selling spree by FIIs’ continued in the cash segment due to tightening monetary policies as inflation concerns took the primary seat. Moreover, the geo-political uncertainty, surprise rate hike by RBI, elevated energy prices and sharp depreciation in the rupee have kept markets under pressure

Despite the sharp sell-off in the March series, there was no major short formation by FIIs in index future segment. Only in May we have witnessed short exposure, which prompted long/short ratio to lows of 0.20 in May. However, in the last few days, we have seen closure of short positions by FIIs. There short exposure moved to 77000 contracts, which is a positive development. In the past few months, FIIs were net seller in the cash segment as well and even in May they have sold worth Rs 24500 crore. Once the quantum of selling declines in the cash segment we feel sharp upsides of 700-800 points can be seen in the Nifty.

At the inception of the May series, the major Put base was placed at 17000 and 16800 strikes, below which sharp declines were observed. In case of recovery, we believe if the Nifty moves above the May VWAP of 16350, then continued up move towards 16800/17000 levels is likely to be seen

Potential short covering candidates…

In the current leg of declines, the Call OI base has continuously shifted lower and fresh Call bases have acted as a hurdle. Similar action was also observed in the index as well.

The abovementioned stocks have seen highest short addition in the last three months (three-month average method). In recent days, Call writing positions have shifted lower and now sizeable Call OI position is placed at the above mentioned strikes. We feel a short covering move of 8-10% can be expected once the stock manages to close above their immediate Call bases.