A speculative investor entered USD750 million of one-week 15-delta euro/U.S. dollar risk reversals last week, causing risk reversals to edge further in favor of euro calls. Foreign exchange options traders said a firm bought euro calls/dollar puts at USD0.8985 and sold euro puts/dollar calls struck at USD0.8750. Spot was USD0.88 Friday, down from USD0.8820 the previous day. The trade pushed one-month 25-delta risk reversals to 0.40 in favor of euro calls by Friday, up from 0.25 for much of the week. "They are buying euro upside and are assuming it breaks the key barrier at USD0.8875, that level has been rejected three or four times this week already," said one trader, adding, "the risk/reward looks better than buying euro downside." He and others declined to name the bank that entered the risk reversal, though they noted the trade pays off if either the euro strengthens or if implied volatility, which was unchanged last week at 8.2%, rises.
Yet Ian Stannard, an fx strategist at BNP Paribas in London, said the euro appears headed in the other direction. The Federal Open Market Committee's decision last week to leave U.S. rates unchanged but shift its bias to neutral from in favor of a cut does not bode well for the strength of the euro, he said. "We think the euro move higher is running out of steam and we expect the euro to start heading lower," he said. Stannard noted the initial reaction to the Fed's stance led to a weaker dollar on the view that the next move for interest rates is up. However, "the market is coming to terms with expectations of higher rates and now thinking that if the Fed felt the need to change its bias, perhaps the outlook is pretty good for the U.S. economy," Stannard said. He predicts the euro will weaken to USD0.84 by the middle of the year.
