FxWirePro: Find best value in Antipodean vols via calendar spreads to deal post-event resilience

After US and Swedish CPI prints this week, we reiterate their market-moving potential. Consumer prices in the United States increased 2.2% YoY in February of 2018, slightly above 2.1% in January and in line with market expectations. The monthly rate eased to 0.2% from 0.5%, also matching forecasts. Prices rose for shelter, apparel, and motor vehicle insurance while food index was unchanged and energy increased only slightly. 

Our research has established that a strategy of capturing event-driven surprises via pre-/post-calendar spreads in options (selling pre-event options and buying post-event options in order to isolate and capture sharp spot moves/realized volatility) has proven to be profitable for G10 inflation releases in general and the US and Sweden CPI in particular (refer 1st chart).

Nevertheless, following the surprise hourly earnings print in early February and the firm US CPI print the following week, markets seemingly got preoccupied with trade-related developments. Break-evens for the March 13th CPI print at around 0.4% for the broad USD index is well below the last month 0.6-0.7% CPI break-evens. On average, overnight vols for next week's CPI release are more than 2.5vols lower than during the Feb cycle.

Consensus exceptions are for a contained 0.2% m/m print, but an upside surprise cannot be ruled out since inflation forecast errors tend to be serially correlated and directional with actual inflation and may yet again intensify speculations for a quicker Fed if realized. The 2nd chart shows a 2x2 grid for CPI O/N vol valuation. X-axis: pricing of the current CPI print relative to historical CPI pricing and 2) y-axis: an analog of realized /implied vol.

The takeaway is that AUD and NZD are the best places to position for an inflation surprise. This is a comforting conclusion since our studies show that smaller currencies like AUD and CAD that are not always the options markets’ prime focus for accurate event risk premium pricing of US inflation prints deliver better returns than more closely watched vol surfaces in majors such as EUR or JPY. Courtesy: JPM

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