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FxWirePro: Essence of dollar appreciation against Turkish lira lures prospects in USD/TRY vanilla calls and spreads

With the deterioration in the local political situation and a less supportive environment from higher G3 yields, the outlook for the lira is worsening, in our view.

We find option exposure most attractive at present, with implied volatility and skew trading near their lowest levels in a year when we entered our USDTRY call on 7th November. USDTRY vol has recently spiked higher following the global risk-off after the US election results, (see above chart).

Going forward, the absence of local FX selling in the coming weeks could render USDTRY a lot more volatile than the market has grown accustomed to, in our view.

The central bank has expressed concerns over the currency, suggesting it would not cut rates further without FX stability, but we doubt this is enough to stabilize the lira.

On the flip side, Fed’s rate hikes in December and easing cycle in 2017 is very much on the table.

While the CBRT could conduct FX sale auctions or release FX liquidity from its FX liabilities like it did last week, we think the impact of these measures would be modest, and so we do not expect the central bank to be particularly proactive with its toolkit to stabilize the lira in the interim, with dollar’s bullish signal from FxWirePro Strength Index (102), we could foresee the next higher levels of USDTRY to 3.40 levels and above.

As a result, we could also see that higher flashes in IVs of ATM contracts of USDTRY, 15.69% and 14.25% for 1m and 2m tenors respectively.

We recommend longs in ITM delta USDTRY call (3.25) of 06-Jan-17 expiry, at spot reference: 3.31.

Alternatively, risk averse could also enter into diagonal call spreads for cost effectiveness, it is advisable to go long in 1M (1%) OTM 0.36 delta call, while writing 1W (1%) ITM call with positive theta and delta closer to zero (both sides use European style options), this credit call spread option trading strategy is recommended when the underlying spot FX price is anticipated to drop moderately in the near term and spikes up in long term.

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