Euro: Options show benefits from US policy doubts – Commerzbank

Commerzbank’s Michael Pfister reviews EUR/USD options, noting that risk reversals turned positive again after comments by the US Treasury Secretary. He argues the earlier period of persistent positive EUR/USD risk reversals was likely an exception, and that the Euro tends to benefit whenever doubts over US policy resurface, a pattern reflected in current risk reversal pricing.

Risk reversals react to US policy signals

"Following the start of the war in Iran, risk reversals initially returned to their pre-Liberation Day levels. In other words, during periods of heightened volatility, the demand for hedging against further USD appreciation was apparently greater. This was likely due in part to the fact that the euro area was hit significantly harder by the disruption to oil and gas supplies."

"But the longer the conflict lasted - or once hostilities ended - the market moved towards slightly negative risk reversals (i.e. hedging against US dollar strength), amid very low implied volatility. Even this development was fundamentally consistent with the relationship prior to Liberation Day. Implied volatility was so low that market participants did not wish to hedge more strongly."

"It now seems reasonable to assume that the period from early April last year to the end of February was the exception rather than the rule – after all, we have consistently observed positive EUR/USD risk reversals."

"I suspect the situation is not quite so clear-cut, but depends on political signals from the US, although it is difficult to back up this assumption with data. But the past few days provide a clue: following the announcement by the US Treasury Secretary, risk reversals rose back into positive territory."

"Of course, six trading days' worth of data are too few to draw clear conclusions. The trend must therefore be monitored further over the coming weeks. Presumably, however, the foreign exchange market has not yet forgotten the uncertainty that followed Liberation Day. In other words, whenever there are sustained doubts about US policy, the euro is likely to benefit. And the risk reversals reflect precisely that."

(This article was created with the help of an Artificial Intelligence tool and reviewed by an editor. Know more.)