FxWirePro: A run through USD/JPY options strategy ahead of Fed and BoJ monetary policies

The Fed meeting starts today but the decision will not be announced until tomorrow evening. Ahead of that May US data for housing starts and building permits will provide updates on what is a particular interest rate sensitive sector. We expect starts to be unchanged after a big rise in April but forecast a modest increase in permits.

USDJPY is dipping below 108.250 level to wrap up this week. As we head into this week, major central banks (BoJ and Fed) are the center of attraction as they are scheduled for their respective monetary policies, on Wednesday, and there is a higher-than-usual degree of uncertainty.

The central banks put are starting to knock in. ‘Can BoJ be open for policy change or most likely to maintain negative rates on hold’ is the interesting question. The BoJ would be in focus for now and we expect them to follow in the footsteps of other DM central banks and turn more dovish, which should still be conducive of selling USDJPY downside.

On the flip side, we expect the Fed to initiate 75bp of precautionary rate cuts this year, beginning with a 50bp reduction in July, followed by a 25bp reduction in September. 

The USD may initially rally if the constellation of events fails to meet the market's high bar for a dovish delivery, though we'd fade any rally. A formal signal in the FOMC statement of the Fed's attentiveness and reactivity to a deterioration in the outlook, perhaps driven by trade tensions, would suggest the market pricing in a greater risk premium for lower rates, which would be USD negative.

USDJPY OTC update and options strategy as follows: 

Please be noted that the positively skewed IVs of 2m tenors are signifying the hedging interests for the bearish risks. We see bids for OTM strikes up to 106.00 levels. This indicates hedgers’ interests in OTM put strikes, overall, put holders are on the upper hand.

While negative risk reversal numbers of USDJPY across all tenors are also substantiating downside risks amid any momentary upswings in the short-run. 

OTC positions of noteworthy size in the forex options market can stimulate the underlying forex spot rate. The spot may trend around OTM put strikes as the holders of the options will aggressively hedge the underlying delta.

USDJPY fell from 112.166 to the recent lows of 107.815 levels, the defensive yen has been the top performer of the day. We feel quite fortunate to be exiting in the black having owned USDJPY through a deep and sometimes volatile correction in US stocks. 

Trade recommendations: USDJPY spiked from 107.815 the recent lows to the current highs of 108.596 levels, the defensive yen are still on the cards. We feel quite fortunate to be exiting in the black having owned USDJPY through a deep and sometimes volatile correction in US stocks. 

Hence, at spot reference of USDJPY: 108.28 levels, we advocate buying a 2M/2w 110/107.00 put spread ahead of Fed and BoJ monetary policies (vols 6.61 vs 6,89 choice), wherein short leg is likely to function if the underlying spot FX keeps spiking, we would like to maintain the ITM long leg with the diagonal tenors on hedging grounds. The lower/shrinking implied volatility is good for options writer and increasing realized volatility is good for the bearish trend. Hence, the above strategy seems to be the best suitable in prevailing volatile conditions. Courtesy: Sentry & Saxo

Currency Strength Index: FxWirePro's hourly JPY spot index is flashing at 114 levels (which is highly bullish), while hourly USD spot index was at 85 (bullish) while articulating at (09:21 GMT).

For more details on the index, please refer below weblink:

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