FXO Market Update - Mar 16
OTC Derivatives Trading
Summary: Spot trades sideways as market wait for the FED decision tomorrow evening. Implied vols continue to grind higher while realized vol dropping as spot is stuck in ranges. The risk premium for the event is priced on the high end and frontend of the USD vol curves trades inverted which makes calendar spreads interesting, where you for example buy 1 month ATM and finance it by selling a 1 week strangle.
Saxo Bank publishes two weekly FX Options Market Update reports covering changes and updates on the FX Options and FX Volatility market. They describe changes in FX volatility levels, risk premium and ideas how to trade based on these.
FX trades sideways as market wait for FED tomorrow. USD implied vol continue to grind higher while realized continue to drop. Looking at the 1 week risk premium, EURUSD, USDJPY and AUDUSD all trades with 2-2.5 vol risk premium and the picture is the same for most USD pairs. O/N forward vol for FED trades at 13.0 for EURUSD, 12.25 for USDJPY and 20.5 for AUDUSD. This corresponds to an expected move of 0.55% for EURUSD, 0.51% for USDJPY and 0.85% in AUDUSD.
Frontend of the curves trades inverted with 1 week vs 1 month spread around 1 vol for the three currency pairs above, while 1 month vs 1 year trades relative flat.
The steep frontend curve makes calendar spreads good value where you for example buy 1 month and finance it by selling a 1 week strangle. Or doing it with shorter dates, buying 1 week and selling Thursday strangle. The structures could be something like below with AUDUSD as an example.
Buy 1 month 0.7750 AUDUSD call or put
Sell 1 week 0.7825 AUDUSD call
Sell 1 week 0.7675 AUDUSD put
Cost 58 pips (1 month cost around 98 pips)
Or with shorter dated
Buy 1 week 0.7750 AUDUSD call or put
Sell Thursday 0.7800 AUDUSD call
Sell Thursday 0.7700 AUDUSD put
Cost 22 pips (1 week cost around 54 pips)
Spot ref. 0.7750
- 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.