Euro/U.S. dollar implied volatility fell across the curve last week as demand to buy options dried up. Traders said the market was unusually quiet because of Golden Week in Japan, last week's May Day holiday in Europe and the run up to today's bank holiday in the U.K. One-month vol fell to 11.9% on Wednesday from 13.40% a week and a half before. Euro/dollar spot has stayed between USD0.8826 and USD0.9032 for over a month.
One trader said investors were putting on range plays, which also reduce volatility when the bank hedges the transaction. The most popular trade was a range binary option, which pays out approximately five times its USD1 million premium if spot remains in a USD0.88-0.92 range. Banks pitching these options hedge their exposure by selling plain-vanilla options because if spot stays stationary the bank wins on the hedge but loses on the binary option. Sonja Hellemann, foreign exchange strategist at Dresdner Kleinwort Wasserstein in London, expects spot euro/dollar to remain in this range for the coming months. She added it would need a market surprise, such as an emerging market crisis or unexpected weak data about the weakness of the U.S. economy to knock the currency pair out of this range.
Euro/dollar has remained range bound because the European Central Bank is gaining credibility and winning the case on holding interest-rates, but macroeconomic fundamentals are improving in the U.S., according to David Bloom, foreign exchange strategist at HSBC in London. He said these opposing forces are holding the currency pair stationary. Bloom does not expect the range to hold. Speaking as DW went to press Thursday, he added the U.S. non-farm payroll data could knock euro/dollar out of its range if the number is significantly different from the market consensus.
