Bank prop desks were selling volatility across currency pairs and maturities last week, driving down long-dated implied volatility levels. "Lots of banks are squaring up," said one New York trader, explaining investors were long volatility because vols are close to all-time lows, but switched to selling volatility last week to close out positions and get flat into the end of the year. "That's risk management more than view," he said.
Dealers said the most active trades involved selling one-year Euro/U.S. dollar at-the-money straddles. One-year implied volatility dropped to 7.0% Wednesday from 7.6% the week before. Spot was trading at USD1.3175 Wednesday from USD1.3285 the week before.
Greg Anderson, senior fx strategist at ABN AMRO in Chicago, attributed intraday spot volatility to end-of-year repatriation flows by European corporates and hedging by European real-money accounts. Banks were squaring up and providing liquidity, but hedge funds had stopped trading entirely. Anderson said strong euro demand could cause spot to climb above USD1.34 by the end of the year. "It's not unusual over the course of three days to see euro go up three figures," Anderson said, pointing to a EUR/USD spot jump from USD1.28 the Wednesday before the U.S. Thanksgiving holiday to USD1.31 the Friday after.
Meanwhile, foreign banks stopped quoting the Thai baht and liquidity dried up after the Bank of Thailand and Finance Ministry announced new controls on foreign investments to dampen the currency, which had been trading at a more than nine-year high against the U.S. dollar. "[The baht] was not a very liquid name to begin with," said one fx options trader. "But there was always some activity. Now it's nonexistent. There is no inter-bank trading at all and the market is in deadlock."
