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Last week, we entered into a GBP call/JPY put spread vs. USD call/JPY put spread as a low premium expression of GBP bullishness against the backdrop of sharply lower odds of no-deal Brexit. Aside from the directional exposure it provides, the other notable feature is the embedded short USD-correlation risk of the option spread – it benefits from de-coupling between GBPUSD and JPYUSD, in this instance via GBP strength and JPY weakness against the greenback – that has historically proven to be a highly rewarding stance to hold. Consider Exhibit 4 that plots cumulative returns from selling GBP vs. JPY correlation via USD executed via a short GBPUSD – short USDJPY – long GBPJPY 2M 35D vanilla strangle triangle (all options live i.e. no delta-hedging). Steady return accumulation from a net option selling/premium collecting construct is not surprising in and of itself; the eye-catching aspect of the graphic is the relative absence of the large drawdowns that characterize short option strategies, especially around the GFC carnage. For comparison, both the individual USD- legs in Exhibit 4 exhibit periodic large drawdowns that lead to markedly lower risk-return metrics over the sample period in question.
In the current Brexit context, the comforting takeaway is that our directional option spread structure is correctly positioned in terms of correlation risk. From a non-directional relative value standpoint, the option triangle in Exhibit 4 can also function as a viable low-touch theta collecting construct. In fact, USD-GBP-JPY ranks as one of the best correlation trios to consider within the universe of such trades within USD/G10 (Exhibit 5). Courtesy: JPM
Currency Strength Index: FxWirePro's hourly GBP spot index is flashing at -97 levels (which is bearish), hourly USD is at 27 (mildly bullish), hourly JPY spot index was at 50 (bullish) while articulating at (11:11 GMT).
For more details on the index, please refer below weblink: http://www.fxwirepro.com/currencyindex
