FxWirePro: Capitalize on EUR/CAD lackluster IVs for short legs in call ladder to hedge ahead of ECB

EURCAD, on a broader perspective, has been drifting in the range between 1.5372 - 1.4442 from the last couple of months.

Last month, we witnessed stern bullish rallies but for now, the trend is foreseen to hover in the similar range, certainly not any dramatic spikes.

Refer below weblink for more reading on technical in our recent post:

http://m.netdania.com/news/FxWirePro%3A%20EUR%252FCAD%20hammer%20hammers%20the%20rallies%20again%2C%20bulls%20shrug-off%20bearish%20engulfing%20in%20bumpy%20ride%20%E2%80%93%20buzz%20yields%20via%20double%20touch%20calls%20/FxWire%20Pro%20-%20Technicals/fxWire%40NC-TC/fxwire_dl/1003684%40fxWire%40NC-TC%7B%22Syms%22%3A[%7B%22sym%22%3A%22EURCAD%22%2C%22isin%22%3A%22FXEURCAD%22%7D]%2C%22Inf%22%3A%7B%22CTR%22%3A%22%22%7D%7D/1512654150

Well, after glancing through one must be convinced with short term downtrend and long term non-directional trend remains intact.

Large options set to constrict the range. The EURCAD appreciation seems to be sluggish than it has recently been as the CAD likely to get cushion on crude price support, while the skew is still undecided whether volatility should rise on the back of a higher or lower spot (refer above nutshell evidencing positive IV skews stretched towards OTM calls for strikes upto 1.5350 but with lower IVs).

ECB is scheduled for its monetary policy on Dec 14th, following the decision to extend the QE programme for another nine months in 2018, we do not expect the ECB to make any changes to its policy stance at its upcoming meeting. Instead, we think policymakers will put off any substantial discussion about the next move or changes to the forward guidance until well into 2018.

Activity indicators have remained strong and we expect the ECB to revise its growth and inflation forecasts upward in light of the ongoing strong economic momentum. 

As a result, the prevailing ATM IVs have been tepid across all tenors, options with a higher IV cost more. This is intuitive due to the higher likelihood of the market ‘swinging’ in your favour. If IV increases and you are holding an option, this is good. Unfortunately, if you have sold an option, it is bad. A seller wants IV to fall so the premium falls. You should also note short-dated options are less sensitive to IV.

As such, we do not focus on intermediary vega gains to favour instead a buy-and-hold structure benefiting from the passage of time, as the IVs are very tepid (below 7%) and the timing of euro upside is less certain. It is wise to know that an option writer wants IV to shrink away so as to fall premiums. Please also be noted short-dated options are less sensitive to IV, while long-dated are more sensitive.

Well, contemplating the recent fundamentals, technical and OTC developments, we’ve devised options strategy for EURCAD on hedging grounds.

Trade execution: at spot reference: 1.5122, buy EURCAD 2m ladder, strikes 1.4721/spot (i.e. 1.5122)/1.5213 (we wouldn’t like to be precise about the indicative offer, certainly assured but slightly lower than vanilla structure).

Rationale: We’ve already stated that there has been stiff tug of war between EURCAD bulls and bear in the recent past. Two short legs would reduce the cost of hedging, while ITM longs to mitigate upside risks.

Risks profile: See for the above structure exposes investors to maximum risks if the underlying EURCAD spot FX trades above upper BEP at the 2m expiry, a level not seen since last month.

Currency Strength Index: FxWirePro's hourly EUR spot index is inching towards -23 levels (which is bearish), while hourly CAD spot index was at shy above -101 (bearish) while articulating (at 08:02 GMT). For more details on the index, please refer below weblink:

http://www.fxwirepro.com/currencyindex.

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