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FxWirePro: Fundamental driving force lures TRY longs against USD and ZAR

FxWirePro: AUD/JPY bulls shrug-off shooting star but edgy at stiff resistance, major trend retraces more than 50% Fibos to hit fresh 21-months’ highs

FxWirePro: USD/JPY RRs indicate intensified bearish sentiments ahead of Fed and BoJ, 1m balanced IV skews to substantiate

FxWirePro: WTI crude pops up shooting stars at stiff resistance, major trend drifts in symmetric triangle struggling to breach above 21-EMA

FxWirePro: North Korea missile doses, FOMC, USTs biggest concerns for USD/JPY

FxWirePro: Fair evaluation of crude’s inventory reports and hedging strategy for WTI prices

FxWirePro: Uphold bullish exposure in EURJPY via call RKO on shrinking IVs and 1m skewness

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FxWirePro: Hedge bullion price risks via 3-way straddles versus OTM calls capitalizing IV skews and bullish neutral RR

FxWirePro: SGD NEER appears too rich and good funding currency but skew metrics tepid

FxWirePro: How does GBP/JPY fundamentals appear ahead of BoJ?

FxWirePro: Yen surges against dollar, fades against euro – A glimpse through yields ahead of FED and BoJ monetary policies

FxWirePro: EUR/GBP seems economical and Cable at offhand

FxWirePro: Buy USD/KRW 3m double no-touch, knock-out 1,109/1,162 to hedge North Korea risk

FxWirePro: South Africa continues to drive platinum’s bullish and bearish price scenarios

FxWirePro: Turbulence in bullion space ahead of Fed – A run through on hedging positioning

FxWirePro: BoJ unlikely to change in monetary policy - Hedging vehicles for AUD/JPY risk averse, slackers in bullish and bearish scenarios

FxWirePro: Is EUR/JPY skews mispriced? Vol smile opportunities in EUR/USD and USD/JPY

Tuesday, January 10, 2017 7:30 AM UTC
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comments

The volatility smile most often signifies that traders are willing to pay higher implied volatility prices as the strike price grows aggressively out of the money.

Among G3 FX volatility space, EURJPY 3m-6m risk reversal is one of the highest compared with ATM volatility of the peer group, suggesting euro calls that sell topside skew.

The EURJPY volatility surface is offering very attractive opportunities because the skew on the 6m and 1y is currently excessive (refer above graph).

Is EURJPY IV skew mispricing? If we consider that the options market is pricing EURJPY risk reversals (RR) as the sum of EURUSD and USDJPY RR, the triangle is perfectly priced.

The implied volatility of 6m and 1y 25-delta strikes is trading about 3 volatility points higher than ATM volatility, which supposes that the implied volatility should be strongly negatively correlated with the FX rate.

Since 2013, the EURJPY RR has strongly mean reverted towards the vol/spot correlation. However, this correlation has been about zero for a few weeks, such that EURJPY 6m skew is now disconnected from its fair value.

Splitting the EURJPY RR into EURUSD and USDJPY components, like the market, exhibits the source of this mispricing. The EURUSD 6m RR is trading at -1.8 and the USDJPY at -1.1. The former is consistent with the EURUSD price action, which actually saw downside volatility.

However, USDJPY has indeed been positively correlated with its volatility, hence the EURJPY mispricing comes from the yen side. Investors could directly consider selling the USDJPY excessive skew, but we recommend selling the EURJPY skew instead. It offers a larger risk premium (due to the fairly priced EURUSD smile component), which is opportunistic given our bullish bias on the spot.

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