U.S. dollar/yen risk reversals fell sharply last week, tracking the spot market as the dollar rose to its highest level in months against its far eastern counterpart. Twenty-five delta risk reversals had plummeted to 0.55 vol in favor of yen calls/dollar puts by Wednesday in New York, from 1.2 vol for yen calls/dollar puts a week before. Spot moved from JPY121.70 Monday to as high as JPY123.40, it later settled at JPY121.60 late Wednesday after the Bank of Japan said it would buy stocks from its ailing banking system.
"There was a lot of buying of dollar calls/yen puts at strikes up to JPY122 before the move in spot," according to one foreign exchange options trader. And he said investors think the dollar could still go higher, as evidenced by the risk reversals. A common trade was to buy at-the-money dollar calls/yen puts, with tenors ranging from two months to a year, to hedge against a further rise in the greenback.
Despite the stronger dollar, implied vol actually rose last week, bucking the recent trend that has seen it move inversely to the dollar. Traders said this is because vol is already at a historically low level. One-month vol increased to 10.9% from 10.5% and one-year vol rose to 9.5% from 9.3%.
Bob Gay, head of fixed-income research at Commerzbank Securities in New York, said despite the midweek rally by the yen on the BoJ's comments, Japan's economy still has fundamental weaknesses that will hamper the yen for the short-term. "Banks disposing of their exposure to stocks is very positive, but the notion that the central bank will buy them back is less appealing," he said. He predicts the yen will continue to be crimped by a lack of structural reforms, with spot moving to JPY125-130 by year end.
USD/JPY Spot & 25 Delta Risk Reversal
