US yields opened higher after the long weekend with 10y trading up to 1.2450. This had USDJPY to continue the grind higher with spot trading through 105.50. Next level to watch is 105.75, highs from earlier in February and back in October/November.
Vols have been paid up in the Asia session with 1 month USDJPY now trading at 5.65 compared to 5.10 low yesterday. It is quite a significant move when the vol trades on a 5-handle. Vols still underperform in the slow grind higher in spot with realized vol trading just above 4.0, making USDJPY the most expensive G10 pair with a risk premium of 1.5, see top left chart below.
Risk reversals continue to underperform as spot and vol trades higher. 1 month risk reversal is currently trading 0.1 favor USDJPY puts, compared to 0.4 for puts a week ago. This is the lowest level for a very long time, last time the 1 month risk reversal traded for USDJPY calls was back in 2017.
The higher and expensive vol together with a very low risk reversal makes USDJPY calls attractive to short at these levels, either outright or as covered calls, depending on your view in spot from here.
Sell 1 week 105.75 USDJPY call
Receive 21 pips
Sell 1 month 106.50 USDJPY call
Receive 28 pips
Spot ref. 105.55