Initiate longs in 3-month ATM call option on USDTRY volatility:

We recommend a long volatility position via a 3-month at-the-money call option on USDTRY vol, which currently costs 2.6104% in premium (ATMD strike of 2.9816).

This position will benefit if implied volatility continues to rise, or if TRY weakens against USD over the coming months. With 3-month implied volatility currently at 12.11, we target a move higher to 14.11, combined with 3% deterioration in TRY spot.

A long position on TRY volatility may function as an insurance vehicle against the “Brexit” risk. Notably, as shown in the diagram, volatility in the Turkish lira has lagged behind those of other liquid EMEA currencies such as ZAR and PLN, and we expect that TRY volatility may engage in some catch-up.

Additionally, we believe that political risks may be currently understated in Turkey, in light of the administration’s move toward implementing an executive presidency, a heightened risk of snap elections, and the worrying frequency of on-going terrorist attacks.

Although not our base case scenario, we note that aggressive easing by the Central Bank of the Republic of Turkey (CBRT) over the coming months or negative China news flow may also spill over into heightened volatility in USDTRY, alongside some TRY deterioration.

After initiating above advised FX option positions, over a period of time compare to buying the underlying spot outright, the call option buyer would be able to gain leverage since the fairly priced calls appreciate in value faster percentage wise for every point rise in the price of the underlying spot in USDTRY.

However, call options have a limited lifespan. If the underlying spot price does not move above the strike price before the option expiration date, the call option will expire worthless.