Lehman Brothers is recommending clients enter a four-month zero-cost risk reversal in euro against the U.S. dollar. In the trade clients sell a European-style euro put/dollar call struck at USD0.8640 and buy a European-style euro call/dollar put struck at USD0.958. These strikes were quoted when spot was trading at USD0.9085 on Thursday.
Anne Sanciaume, foreign exchange strategist in London, said the trade makes sense now because the recent drop in the euro against the dollar has caused traders to hedge the euro's downside again. That means the euro put is trading at a premium to an equivalently out-of-the money call. That in turn means that the euro call the clients buy can be structured nearer the at-the-money forward rate than the euro put the clients sell. The June forward was trading at USD0.91. The client wins if spot is above USD0.958 at the option's maturity.
This trade is designed to benefit from spot rising against the dollar. Lehman forecasts a sharp appreciation in the euro in June to USD1.02, after which the common European currency should appreciate more slowly. Francesca Fornasari, foreign exchange economist in London, said Lehman Brothers expects the dollar to be weak against the euro until the second half of the year. This is because it will take until then for U.S. interest-rate cuts and planned tax cuts in the first half of the year to jumpstart the U.S. economy and draw investors back.
Sanciaume said there is not a minimum or maximum notional size because the trade is structured using liquid options. She added that it is also appropriate for most clients ranging from corporates wanting to hedge exposure to the spot market to hedge funds taking a directional view.
