FxWirePro: Impact of Covid-19 On RVs And FX Idiosyncrasies

As developments on the COVID-19 outbreak, and related spillovers, like Oil prices crash, have dominated market focus over the past two months, FX vols dynamics followed a high correlation with Equity (especially US) indices since the Outbreak of the COVID- 19 crisis, with a sharp rise from late February to mid-March and a sharp drop ever since. Earnings momentum to remain negative. IBES is cutting, but keeps having 2021 EPS projections above 2019. Such a fast EPS rebound didn’t tend to materialize historically. A large number of companies have already cancelled their dividends for the year. While Q1 S&P500 EPS continues to move lower, down from $40 at the start of the year to $32 currently. 

Room for idiosyncratic patterns was limited in scope, and linked to political rather than macro factors, as in the case of BRL vols rising sharply from mid-April. Increasing balance sheets by major central banks can be a factor leading to lower FX vols (Two macro factors suppressing FX volatilities, October 2019, refer above chart), although retracement from mid-March highs has already been substantial. Resumption of and relative divergences in QE programs could also stimulate de-correlation moving forward. 

We overview select opportunities of elevated skew and correlation parameters that still price-in substantial premia, and would offer, better than vol levels, room for playing a gradual emergence from distressed markets mode and/or idiosyncrasies in the FX space.

We introduce a model for FX vol curves based on the correlation between spot and rates differentials. The analysis favors a RV long 6m6m USDZAR fwd / short 6m6m AUDUSD fwd vol, implemented via Gamma- neutral calendars. Courtesy: JPM