Menu

Search

  |   Insights & Views

Menu

  |   Insights & Views

Search

FxWirePro: EUR/GBP gamma spreads to optimize IV factor

Hedging framework using naked contracts would turn out to be a gamble on those currency pairs whose implied volatility would be spiking up drastically (from the nutshell one can observe, EURO currency crosses except EURCHF are the ones whose IVs are increasing consistently).

It may fetch desirable outcomes but at times seems unlikely irrespective of fundamental or mathematical computations due to any abrupt macroeconomic or geopolitical matters.

Hence a lot of spreads have been drawing up some customized strategies by using risk reversals while looking upon the Option Greeks simultaneously. While doing so it seems like the FX options involving euro have tons of Gamma.

It might be puzzling because on one hand it seems some of these options are highly volatile than any other euro currency pairs but a tiny shift in the underlying exchange rate would cause instant disaster.

For an instance, we've considered EUR/GBP's downside risks, and this can be mitigated by devoting little time on ascertaining an accurate gamma.

As you can observe from the diagrammatic representation, we've constructed put spread by considering gamma somewhere closer to zero that would neutralize the implied volatility impact on option price.

This position remains quite firm to achieve our hedging objectives (we've used price band between 0.7358 -0.6919), because we know gamma represents the change in delta, we still have healthier delta at -0.67.

This spread results in desired hedging objective irrespective of implied volatility disruptions as we have both ITM and OTM instruments on long and short side respectively and prevailing bear run will be taken by In-The-Money puts.

Gamma of ATM options near expiry increases, whereas the Gamma of ITM and OTM options decreases. The chart below shows the behavior of Gamma relative to time until expiry and the option's moneyness.

  • Market Data
Close

Welcome to EconoTimes

Sign up for daily updates for the most important
stories unfolding in the global economy.