Shorts on index futures hit record high. Are FPIs bracing for a market shock?
Source: Live Mint
MUMBAI
:
Foreign portfolio investors (FPIs) had amassed a record 153,404 short contracts on Nifty and Bank Nifty futures as of Tuesday, a day before the Reserve Bank of India’s Monetary Policy Committee (MPC) begins its three-day meeting (5-7 February). Markets widely expect a 25-basis-point rate cut.
“These shorts are at a record high, adjusted for the change in lot size of Nifty futures, which took place at the end of January for monthly derivative contracts,” said Rohit Srivastava, founder of analytics firm IndiaCharts.
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The size of these short positions signals heightened caution among FPIs. However, analysts believe a dovish MPC stance under new RBI governor Sanjay Malhotra could spark a short-covering rally, triggered by FPIs buying back the shares to square of short positions to cut losses.
This comes amid global uncertainty, particularly concerns over potential trade tariffs under a second Donald Trump presidency, which could weigh on riskier emerging market assets.
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The Securities and Exchange Board of India (Sebi) had directed exchanges to increase the lot sizes of Nifty and Sensex derivative contracts to ₹15-20 lakh from ₹5-10 lakh starting 1 October 2024, aiming to curb retail speculation in index futures and options.
FPIs primarily use index futures to hedge their stock portfolios, which stood at a cumulative $786.08 billion as of 15 January, per NSDL data.
“The positions of FPI are extreme, and I think we can at best expect a relief rally ahead or around the MPC meeting outcome and not a massive short covering one where the upper end of the range is 24200 and the lower end at 23500,” said Kruti Shah, quant analyst at Equirus Capital.
Shah noted that FPIs are unlikely to cover or square off a significant portion of their short bets, citing uncertainty over Trump’s trade policies.
“The moment we (Nifty) fell from the 25,200-25,500 levels in the recent correction since October, there was a massive short build-up by the FPIs,” Shah said. “So they are deep in-the-money and won’t cover most of their positions till the uncertainty of a global tariff war lingers,” she added.
A renewed trade war could fuel inflation in the US, limiting the Federal Reserve’s ability to cut rates further. The Fed last week kept its benchmark rate steady at 4.25-4.5%, after cutting it by 100 basis points since September.
Yet, US 10-year bond yields have climbed from 3.7% in mid-September to around 4.5% currently, compressing the yield differential between Indian and US 10-year papers from 400 basis points to 220 basis points. This has triggered $2.4 trillion in FPI outflows from Indian markets since October.
With US bond yields rising, US-led funds have shifted out of emerging markets, preferring dollar assets. A rate cut by the RBI now could further weaken the rupee by narrowing the yield differential.
“Uncertainty over Trump tariffs could make the FPIs more risk averse which is why they are hedging their portfolios big time here,” said Sudhir Joshi, consultant at Khambatta Securities.
Also read | Rate cut at upcoming MPC meet not a certainty, says CEO of Bajaj Finserv AMC
Retail and high-net-worth individuals, domestic institutional investors, and proprietary traders have largely taken the other side of FPI short positions.
Before Tuesday, the previous record short position stood at 130,919 contracts on March 22, 2023, followed by 118,460 contracts on 4 June last year, immediately after India’s general election results.
