FxWirePro: Bearish/Bullish Scenarios, OTC Outlook of AUD/USD and Hedging Perspectives Ahead of RBA

Bearish AUDUSD scenarios below 0.65 levels if:

1) the RBA cuts rates more quickly than we expect; 

2) Fed rate cuts are no longer sufficient to prevent the US from entering recession; 

3) the trade conflict between the US and China broadens; 

4) the global economy slows more than expected, risking recession into year-end. 

Bullish AUDUSD scenarios above 0.70 levels if:

1) China eases policy more forcefully and commodities rally on the back of future infrastructure spend; 

2) the Australian government commits to large fiscal easing, shoring up growth prospects and reducing the need for a further 50bp of easing from the RBA. 

OTC Outlook:

We will now quickly run you through OTC outlook of AUDUSD, before proceeding further into the options strategic framework.

Please be noted that the positively skewed IVs of 6m tenors still signify the hedgers’ interests to bid OTM put strikes up to 0.64 level which is still in line with the above bearish trend (refer 1st nutshell). 

Please also be noted that the minor positive shift in risk reversals (RRs) of the shorter tenors and bearish RRs of the longer tenors that are also in sync with the bearish scenarios refer 2nd (RR) nutshell.

In a nutshell, AUD OTC hedgers’ sentiments substantiate that their risk mitigating activity for the downside risk has been clear. 

Hedging Strategies via FX Derivatives:

Contemplating the above factors, diagonal put spreads are advocated to mitigate the downside risks with a reduced cost of trading.

The execution of options strategy: Foreseeing minor upswings in the short-run, shorting 2w (1%) OTM put option with positive theta (position seems good even if the underlying spot goes either sideways or spikes mildly), simultaneously, adding longs in 2 lots of delta long in 3m (1%) ITM -0.79 delta put options is a wise thing to position oneself. 

The rationale: Bidding above 3m IV skews, we have advocated in-the-money delta long puts for the major downtrend on the hedging grounds, comprising of more number of ITM long instruments and theta shorts with narrowed tenors for 1m lower IVs to optimize the strategy.

Bearish outlook with rising volatility good for the option holder. While put writers would be on the upper hand on theta shorts in OTM put options that would go worthless on lower IVs as the underlying spot FX keeps rising. Thereby, the premiums received from this leg would be sure profit. It is reiterated that the deep in the money put option with a very strong delta will move in tandem with the underlying.

Alternatively, on hedging grounds ahead of RBA’s monetary policy that is scheduled for the next week, we advocate shorting futures contracts of mid-month tenors as the underlying spot FX likely to target southwards below 0.66 levels in the medium run. Writers in a futures contract are expected to maintain margins in order to open and maintain a short futures position. Courtesy: Sentrix and Saxobank