FxWirePro: EUR/USD options strips most suitable hedging vehicle on interplay between Fed and ECB rhetoric

The BOE, ECB, and RBNZ failed to augment a weak dollar narrative last week but momentum for a strong dollar stuttered instead as short-term dollar bulls reached near term satiation.

For this week, continue to look to the interplay between Fed and ECB rhetoric for any potential extension of DXY upside.

In the interim, note that the broad dollar has garnered slightly less traction even as rate differential arguments continue to implicitly remain in its favor.

Bearish EURUSD scenarios:

1) Growth fails to rebound above 2%;

2) EUR appreciation and/or sluggish core CPI delays ECB policy normalization

3) Eventual repatriation by US corporates.

Bullish EURUSD scenarios:

1) The growth rebounds to 3% by mid-2018;

2) ECB becomes more comfortable with progress on wages and core inflation

OTC outlook:

The positively skewed IVs of 1m tenor signify the hedging interest of bearish risks, while you could observe positive shit in bearish risk reversal numbers.

What is interesting here is that the downtrend in EURUSD would have been even more pronounced over the past few weeks if the euro had not appreciated at the same time.

Contemplating above-stated driving forces and OTC indications as shown below, we had advocated options straddle strategy accordingly about two weeks ago on hedging grounds. We now wish them to be reshuffled into strips strategy which contains 3 legs.

Option Strategy: Options Strips
Combination ratio: (2:1)

Rationale: Considering the bearish technical environment in the recent past and ATM implied volatilities of 1m expiries are below 7% which is on the lower side among G7 currency bloc, likely bounce back.

Most importantly, the skews in the sensitivity tool indicate hedging sentiments for the bearish risks, these risks are coupled with bearish neutral risk reversal numbers.

The execution: 

Go long in 2 lots of EURUSD at the money -0.49 delta put options of 1M tenors, go long 1M at the money +0.51 delta call option simultaneously.

Margin requirement: No.

Description: Trade the expectation of increased volatility without taking a view on any particular direction. A strategy usually utilized over significant economic data events and other political events.

Effect of Volatility: Directly proportionate to the volatility, the value of both options premiums would likely to enhance as volatility increases (good) and will decrease as volatility falls (bad).

Please be noted that the strategy likely to fetch positive cashflows regardless of the swings with more potential on the downside. Hence, one can deploy this options strategy on hedging as well as speculative grounds.

Currency Strength Index: FxWirePro's hourly EUR spot index is displaying shy above 157 levels (which is bullish). While hourly USD spot index was inching towards -93 (bearish) while articulating (at 06:40 GMT).

For more details on the index, please refer below weblink: http://www.fxwirepro.com/currencyindex

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