Dollar/Yen Appreciation Fires Up Put Demand

U.S. dollar puts were being snapped up by currency players last week after the greenback hit a 10-week high against the Japanese yen on Tuesday, moving to JPY113.5 from JPY110.4 the week before. But, traders said the dollar rally may be short lived. The yen was tipped to strengthen after senior bankers hinted the Bank of Japan's quantitative easing, a policy which floods banks with cash to maintain market liquidity, is soon to end. "The market doesn't believe the dollar/yen rally so [it] is looking for the downside, but the supply is all on the upside at the moment," said one trader at a U.S. house.

Officials said three-month dollar put options were the most heavily traded positions and were typically striking between JPY105 and JPY110. Implied volatility for the same period fell to 8.09% on Wednesday from 8.29% the week before. When the dollar fell to JPY112 on Thursday, attention turned to positioning for yen appreciation. One trader at a European house reported an Asian buyer of a three-year, USD20 million, one touch option with a strike of JPY120. "This is one of the big flows we have seen," he said. Another official said short-term directional trading on the upside of the yen remained thin.

David Woo, FX strategist at Barclays Capital in London, said the dollar/yen activity on the options market was also driven by uncertainty over what is moving the Japanese currency, in particular why a strengthening Nikkei did not filter to the spot market. "This breakdown may have to do with the changing currency hedging policy of foreign investors of Japanese equities," he said, adding, "We continue to think that the yen will be driven more by the dollar rather than domestic factors." Another analyst predicted the yen will continue to improve. "We are not fans of chasing yen weakness from here, he said.