Foreign portfolio investors have adopted a sophisticated options strategy to enhance returns from market volatility, combining traditional futures shorting with call option sales on benchmark indices. This strategic shift has enabled FPIs to capitalize on market downturns while generating premium income from options transactions.

Strategic Shift in FPI Trading Approach

FPIs have fundamentally altered their derivatives trading strategy over the past six months, moving beyond conventional futures shorting to include systematic selling of Nifty and Bank Nifty call options. This approach allows sellers to earn premiums from buyers, with profits realized when markets fall or remain flat. The strategy carries risk if markets rise, unless the seller owns underlying stocks.

The timing of this strategic shift coincides with significant market volatility. Since Nifty first reached a record high of 26,277.35 on 27 September 2024, FPIs have net sold index call options on 95 trading sessions out of 313 total sessions, according to exchange data.

Record Short Positions and Market Impact

FPI short positions have reached unprecedented levels across multiple instruments:

This contrasts sharply with the preceding year, when FPIs net sold Nifty calls on only 31 trading days out of 244 sessions, remaining buyers the majority of the time. In January alone, they have net shorted calls on eight out of 13 trading sessions.

Market Volatility and Performance Metrics

The Indian equity markets have experienced significant volatility since the September 2024 peak. From the record high, Nifty plummeted 17.00% to a multi-month low of 21,743.65 on 7 April. The index subsequently recovered 21.00% to test a new high of 26,325.8 on 1 December, supported by heavy domestic institutional investor buying worth ₹5.99 trillion.

However, sustained FPI selling pressure amid rupee weakness has continued to impact markets. Fresh challenges have emerged from tariff tensions over Greenland, uncertainty regarding US trade deal prospects, and continued currency depreciation, dragging markets down to 25,232.5 on Tuesday.

Currency Impact on FPI Returns

The rupee's decline has significantly affected FPI investment returns in dollar terms:

This currency impact has contributed to FPI preference for US treasuries, particularly with rising yields in US bonds providing attractive alternatives.

Expert Analysis and Market Outlook

Market analysts view the intensified call option shorting as a tactical response to current market conditions. Kruti Shah, quant analyst at Equirus, explains that significant call shorting by FPI proprietary trading desks aims to profit from anticipated downside or flat markets, utilizing weekly options expiries for short-term positioning amid external headwinds.

S.K. Joshi, consultant at Khambatta Securities, warns that FPI shorting of Nifty calls increases volatility odds through the Budget on 1 February. U.R. Bhat, co-founder of Alphaniti Fintech, interprets Tuesday's fresh call shorting as indicating FPI intentions to increase cash market selling in upcoming sessions.

The strategy's effectiveness lies in its dual benefit structure: if FPIs short Nifty calls and subsequently sell heavyweight stocks, the resulting index decline enables them to pocket premiums paid by call buyers while profiting from the underlying market movement.

Foreign Portfolio Investors (FPIs) maintained their selling momentum in Indian equities for the seventh consecutive session on Tuesday, offloading stocks worth ₹1,499.8 crore according to provisional data from the National Stock Exchange. This sustained outflow reflects continued overseas investor caution toward Indian markets amid various global and domestic factors.

FPI Selling Pattern Intensifies

The Tuesday selloff follows a pattern of consistent FPI outflows that began the week with a substantial ₹3,638.4 crore net sale on Monday. Last week's trading sessions also witnessed significant overseas investor exits, with FPIs offloading ₹3,769 crore worth of equities on Friday and ₹3,367 crore on Thursday.

According to data from the National Securities Depository Ltd, the cumulative FPI outflow from Indian equities has crossed the ₹18,000 crore mark, reaching ₹18,585 crore so far in 2026.

Domestic Institutions Counter FPI Outflows

While foreign investors continued their exit strategy, domestic institutional investors (DIIs) maintained their supportive stance toward Indian equities. DIIs emerged as net buyers on Tuesday, purchasing shares worth ₹1,181.78 crore. This follows Monday's substantial DII buying of ₹5,839.3 crore and continues their positive streak that has extended beyond 50 sessions. Last Friday, DIIs had bought equities worth ₹5,596 crore, demonstrating consistent domestic institutional support.

Market Performance Amid Mixed Flows

Indian benchmark indices ended marginally lower on Tuesday despite domestic institutional buying support. The BSE Sensex declined 250.48 points or 0.30% to close at 83,627.69, while the Nifty slipped 57.95 points or 0.22% to settle at 25,732.30. The Nifty's close below the 25,750 mark occurred amid weekly F&O expiry-related volatility.

Broader Market Performance

The broader market indices showed mixed performance during Tuesday's session. The Midcap index eased 0.20%, reflecting the cautious sentiment in mid-sized companies. However, the Smallcap index demonstrated resilience, outperforming the benchmark indices with a gain of 0.60%.

Geopolitical Concerns Weigh on Sentiment

Market sentiment faced additional pressure from renewed geopolitical concerns following US President Trump's announcement of a 25% tariff on countries trading with Iran. This development has raised potential risks for India's exports and strategic projects, particularly the Chabahar Port, adding to investor uncertainty in the current market environment.