Euro could face bleak winter with frightened options traders


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FX traders forecast a cold and stormy winter for the Euro.

Markets are increasingly nervous about the common currency with the resurgence of the pandemic, rising geopolitical tensions and mounting gas supply problems. Risk reversals in the Euro-Swiss Franc pair fell below parity on November 1 for the first time in nearly a year – coinciding with a one-month jump in the GARCH euro-dollar, a technique of statistical modeling that helps predict financial market volatility. assets. Then, this week, that cross fell to its lowest level in six years.

But it was the Euro-dollar pair’s break from the psychological 1.15 level on November 10 that seems to have really scared off options accounts. Turnover in Euro options has remained high since then, driven by higher realized volatility and short-term sell demand, with bearish momentum exposing trade barriers.

Daily options volume averaged 22.8 billion euros last week, according to Depository Trust & Clearing Corp. Put options exceed calls by 4 to 3, and more than 9 billion euros in exotic options have been reserved during this period. Demand helped push volatilities in the currency to the highest level in months and briefly shifted one-month biases to the most bearish for the euro since May 2020.

While volatility typically decreases as the holidays approach, the timing of upcoming options expiration and the shape of the yield curve paint a different picture. On November 24, around 4.2 billion euros of 1.1500 strikes and 1.6 billion euros of exotic options reserved on DTCC will expire, making it by far the largest due day before the end of the year. ‘year. With the exception of € 4.8 billion in exoticism which expires just after the December Federal Reserve and European Central Bank meetings, there is a relative dearth of deadlines.

Free from option constraints, the euro can continue to oscillate as central bank policy meetings approach against a backdrop of dwindling liquidity. The biases are bearish across all tenors, so any further one-off deterioration is likely to lead to firmness in implied volatility. Meanwhile, a return above 1.15 would completely change the outlook for volatility.

Looking ahead to 2022, traders appear keen to grasp electoral risks and rate volatility, especially a potentially hawkish Fed tilt. Even before the euro fell below 1.15, they were loading up on longer-term options. The implied values ​​of the yen and the one-year euro have risen since mid-September, a sign that the low volatility regime of carry currencies is changing. (On Thursday, the Canadian dollar’s one-year implied volatility hit a three-month high.)

NOTE: Robert Fullem is an FX and Rates Strategist who writes for Bloomberg. The observations he makes are his own and do not constitute investment advice.

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