Players were snapping up short-dated U.S. dollar/Brazil puts last week after Brazil's Central Bank surprised the market Tuesday by selling USD400 million through USD/BRL currency swaps to rescue the falling real. Traders expected the dramatic policy reversal to bring the pair back in line, reduce implied volatility and add liquidity to a panicked market.
This month's equity sell-off spread to emerging-market currencies and caused the pair to spike 15% to BRL2.31 Wednesday from BRL2.06 May 10. The wild spot move sent one-month implied vol up to 28% last week from 13.5% and as high as 38%; one-week implied vol got as high as 51%. Traders said these were the highest levels seen since 2003 and sucked liquidity from the market. Speculators trying to push up the dollar ahead of currency futures expiration Wednesday may also have contributed to the volatility, traders said.
After the Central Bank's announcement, traders noted strong demand for dollar puts out to one month with strikes around BRL2.20 and BRL2.25. Traders and analysts said they broadly expect spot to recede to BRL2.20 and implied vol to cool off in coming weeks. Greg Anderson, senior fx strategist at ABN AMRO in Chicago, said the spot move and Central Bank decision to reduce its long dollar position was a surprise. "The market is stunned," he said. "Everyone half expected the move from BRL2.10 to BRL2.25. But then it went to BRL2.40, and the Central Bank had to reverse policy." Traders and analysts expected the Central Bank to step in if the dollar continued to rise, but not as early as Tuesday. This is the first time Brazil's Central Bank has intervened in this direction since 2004.
