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FxWirePro: GBP/AUD Oscillates on Topsy-Turvy Economic and Geopolitical Surface – Uphold Directional Hedges

A Glace at Aussie: This morning the Australian central bank (Reserve Bank of Australia, RBA) lowered its key rate by a further 25bp as the majority of analysts had expected. The Aussie found strength in early Sep from thawing US-China trade developments, a bounce in iron ore prices and large resource company dividend payments. But GBPAUD did not quite give way before the resources-linked support faded, it has been oscillating between higher highs and higher lows as you can observe the above technical chart which is making upside traction in the long run amid minor price dips.

The reason why the market reaction was then even positive for the AUD exchange rates was a sentence in the RBA statement that suggests that no further rate cuts are planned for now. It is referring to a "gentle turning point" for economic growth after it accelerated slightly in the first six months of the year compared with the second half of 2018. 

The pressure on AUD was amplified by the 12-month high in Australia’s unemployment rate, shifting market pricing towards an Oct RBA rate cut. While we also do not expect a major US-China trade breakthrough in Oct. 

Sterling still edgy on geopolitical surface: Everyone is waiting for Boris Johnson to officially present his plans to avoid a hard border in Ireland to the EU, sentiment amongst British companies is increasingly deteriorating. The PMI for the manufacturing sector have surprisingly printed upbeat numbers in September, actual 48.3 versus consensus 47.0 and previous 47.4 level. Admittedly, all those who are still hoping for an amicable agreement between the UK and the EU are not going to pay much heed to today’s data, as they are going to hope that the economy is going to pick up as soon as the Brexit uncertainty has been overcome. It is uncertain though to what extent the economy will pick up since the spring has been due to global weakness and to what extent it is the result of the uncertainty surrounding Brexit. The economic uncertainty thus remains far higher than many assume. 

Recently, dovish voices from the ranks of the Bank of England have also been heard in this connection, speaking of the need for an interest rate cut even in the case of an orderly Brexit. This results in additional risks for Sterling quite apart from Brexit.

3-Way Diagonal Options Spread 

Ratio: (Long 1: Long 1: Short 1)

The execution: Initiate long in GBPAUD 6m at the money delta call, long 1M at the money delta put and simultaneously, Short theta in 1m (1.5%) out of the money call with positive theta or closer to zero.

Rationale: Contemplating IV skews, short-term and long-term trends that are well balanced on either side, we could expect both minor price dips in short-term and major uptrend remains intact.

The positively skewed IVs are stretched towards OTM puts, we reckon that the Delta instruments are conducive to monitor directional risk so as to be aware that how much of option’s value would increase or diminish as the underlying market moves as this option tool measures the value of an option as the underlying spot FX moves. Well, a higher (absolute) Delta value is desirable on long leg in the above stated strategy. Whereas, the Theta is positive on short leg; as the time decay is good for an option writer (that’s why we’ve chosen narrowed expiry).

Hence, we advocate the above options strategy with cost-effectiveness that could hedge regardless of the swings on either side. 

Alternatively, on hedging grounds, at spot reference: 1.8343 levels, we advocate initiating shorts in GBPAUD futures contracts of October’19 delivery as further downside risks are foreseen in the short-run and simultaneously, longs in futures of December’19 delivery. 

Thereby, the foreign traders, who are dubious about puzzling swings, can directionally position in their FX exposures. The directional implementation of the same trading theme by further allow for a correlation-induced discount in the options trading also if you choose strikes appropriately. Courtesy: Commerzbank & Sentry

By Niranjan Patil
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