FxWirePro: EUR/JPY hedging perspectives ahead of BoJ, Central banks that drive underlying spot movements

Following the ECB’s surprisingly dovish message last week, signaling no hikes in 2019, we see significantly less upside for EURJPY this year, EURJPY could probably show slumps further in the intermediate-term amid the minor upswings in the short-term, and we see a possibility of the cross falling towards 122 levels. The main drivers are as the following: 

1) The eurozone growth is all set to stay weak for most of H1’2019 and the ECB is clearly keeping an eye on this risk; Euro growth gets stuck below 2% and ECB hikes only in 2020; 

2) The extended political protests in France, a populist tide at the European parliamentary elections in May. 

On the flips side, the Bank of Japan (BoJ) is lined up for its monetary policy on Thursday, to maintain negative rates on hold. We ruled out slow normalization of monetary policy, as inflation in Japan has so far made no attempt to approach the BoJ's 2% inflation target.

The BoJ is no longer expected to raise the yield target in 2020 given the downgraded inflation outlook. Hence, we could foresee EURJPY at 122 levels on a 3M horizon.

Hedging skewness (EURJPY): Please be noted that the positively skewed IVs of 3m tenors that are also signifying the hedging interests for the bearish risks. The bids for OTM puts of these tenors expect that the underlying spot FX likely to break below 122.00 levels so that OTM instruments would expire in-the-money. 

Risk reversals Substantiate Skews (EURJPY):Most importantly, to substantiate the above indications, bearish neutral risk reversal numbers of all euro crosses except EURGBP (especially EURJPY) across all tenors are also substantiating bearish risks in the long run amid minor abrupt upswings in the short-term as you could observe that there has been the minor positive shift in the risk reversal numbers. Please be noted that 3m IVs are overall OTC barometer is a noteworthy size in the forex options market that can stimulate the underlying forex spot rate.

Options Trade Recommendation (EURJPY): Contemplating the above factors, we advocate buying 3m EURJPY (1%) ITM -0.69 delta puts for aggressive bears on hedging grounds. If expiry is not near, delta movement wouldn’t be 1-point increase with 1 pip in the underlying spot FX. Which means if the spot FX moves 1 pip, depending on the strike price of the option, the option would also move less than 1. Thereby, in the money put option with a very strong delta will move in tandem with the underlying. Source: Sentrix and Saxobank

Currency Strength Index: FxWirePro's hourly EUR spot index is flashing at 39 levels (which is mildly bullish), while hourly JPY spot index was at -83 (bearish) while articulating at (07:22 GMT).

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