FXO Market Update - Feb 16

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

Alternative

Sell 1 month 106.50 USDJPY call
Receive 28 pips

Spot ref. 105.55

• The Top/Bottom charts shows the top 5 and bottom 5 values/changes for at-the-money vol, risk reversal (RR) and risk premium of the 45 currency pairs we are tracking.
• Risk premium: Implied (Imp) minus realized volatility. A positive risk premium means implied volatility trades above realized volatility, i.e. the implied volatility can be seen as “rich”.
• Change: The difference between current price/volatility and where it closed 1w ago.

FX Options Trading:

You should be aware that in purchasing Foreign Exchange Options, your potential loss will be the amount of the premium paid for the option, plus any fees or transaction charges that are applicable, should the option not achieve its strike price on the expiry date

If you write an option, the risk involved is considerably higher than buying an option. You may be liable for margin to maintain your position and a loss may be sustained well in excess of the premium received.

By writing an option, you accept a legal obligation to purchase or sell the underlying asset if the option is exercised against you; however far the market price has moved away from the strike. If you already own the underlying asset that you have contracted to sell, your risk will be limited.

If you do not own the underlying asset the risk can be unlimited. Only experienced persons should contemplate writing uncovered options, then only after securing full detail of the applicable conditions and potential risk exposure.

Learn more about FX Options:

Forex Options – An introduction

Forex Options – Exotic options