FxWirePro: Fed most likely to maintain status quo - Hedge dollar payables via EUR/USD (knock-in) forwards

We maintain a neutral forecast for EURUSD over the coming quarter, and indeed continue to recommend tactical short option trades in EURUSD for the next month or two on the basis of some fundamental driving forces: 

The rationale: 

1) Poor European growth is likely to matter slightly more than a now-diffident Fed, and 

2) The Fed may be on hold but the absolute level of USD interest rates remains supportive of short term capital flows to USD. 

Furthermore, we continue to indicate a mildly constructive forecast for the euro based on the key assumption that growth rebounds above 1.5%. This together with a still robust underlying balance of payments position should allow cautious mean-reversion higher in a is a modestly undervalued EUR (the EUR REER is 4.5% cheap to a 20Y average whereas the dollar is 3.5% expensive).

For shorter-term horizons (up to 3 months), we recommend hedging USD-denominated expenses via FX forwards, as we see a risk of more USD strength. For longer-term maturities (over 3 months), consider incorporating optionality, which enables one to gain from a EURUSD increase; this could be done by means of knock-in forwards, which allow one to sell EURUSD above the current spot should USD weaken over time (as per our call), while still securing a worst-case rate. 

Alternatively, on hedging grounds ahead of Fed’s monetary policy that is scheduled for this week who is most likely to maintain status quo in its monetary policy, we advocate shorting futures contracts of mid-month tenors as the underlying spot FX likely to target southwards 1.1175 levels in the medium term.

Writers in a futures contract are expected to maintain margins in order to open and maintain a short futures position. Courtesy: JPM & Danske

Currency Strength Index: FxWirePro's hourly EUR spot index is flashing at 70 levels (which is bullish), while hourly USD spot index was at -96 (bearish) while articulating at (08:24 GMT).

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

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