FxWirePro: Turkish Lira Selling Momentum Intensifies – Uphold USD/TRY Debit Call Spreads

It is still early days, but a sell-off in the Turkish lira is gathering momentum behind the scenes as the quiet holiday season approaches. USDTRY has surpassed 5.85 from stable levels at around 5.75 a fortnight ago. Within a rather benign global environment, this sell-off assumes even more significance -- relative to peers such as the South African rand and Russian ruble, the lira is crashing through prominent support levels. There is no special geo-political trigger as far as we can see. Rather, it could well be the last rate reduction by CBT (200bps), which has reduced the prospective real carry of the lira nearly to zero. The nominal carry is now 12%. While CBT may forecast that inflation will gradually decelerate to 8% by the end of next-year, the markets are aware that this is only a passive forecast like the ones CBT has carried for umpteen years before this, and which never materialised. The underlying inflation rate calculate from month-on-month rate of change of seasonally adjusted prices is somewhere in the 12%-14% range, which means that once inflation returns to this level, the real carry would become zero or negative. When and how the market will decide to switch its perception of risk and reward is never going to be predictable, but we need to watch this development closely as each such incident is a potential major development.

Hence, we continue to remain pessimistic on the lira outlook and project USDTRY to (indicatively) reach 6.60 by the end of H1’2020. Although the major uptrend seems to be little edgy, bulls are hovering at 7-EMAs upon mild overbought pressures after the mild bounce-back from 2-3 months (refer 1st chart). It is a little surprising that EM FX vols have under-reacted so severely to the bearish global impulses that have been in train all year.

Trade tips: Capitalising on any abrupt price dips, we reckon that it is the ideal time for deploying longs with a better entry level. On hedging grounds, USDTRY diagonal debit call spreads are advocated with a view to arrest both upside risks of the major trend and minor dips abruptly. Initiated 3m/1m 5.50/6.25 call spreads at a net debit. Thereby, one achieve hedging objective as the deep in the money call option with a very strong delta will move in tandem with the underlying spikes.

Rationale for the trading: Please observe that the above technical chart is also clearly indicating the further upside risks. 

It seems that hedgers of TRY are positioned for the upside risks on the above fundamental factors. The positively skewed IVs of 3m tenors are bidding for OTM calls strikes up to 6.18 levels (refer 2nd exhibit). 

IVs of this underlying pair is also on the higher side, trending highest among the G20 FX space. Call options with a higher IVs cost more, because, increasing IV is conducive for the option holder, just for an intuition that the higher likelihood of the market ‘swinging’ in holder’s favour. Courtesy: Commerzbank & Sentrix

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