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Derivatives

G7 Option Buying Prompts Vol Spike

Hedge funds were snapping up short-dated options across yen pairs last week ahead of this weekend's Group of Seven industrialized nations meeting, causing a spike in one-week implied volatility.

Hedge funds were snapping up short-dated options across yen pairs last week ahead of this weekend's Group of Seven industrialized nations meeting, causing a spike in one-week implied volatility.

"There's a lot of interest in buying short-dated options to cover event risk," said one London trader, reporting three to four times higher-than-usual volumes for options with Monday expiries and strong interest in expiries throughout next week, compared with virtually no interest in back-end options. One-week euro/yen implied vol spiked to 9.5% from 7.5% last week and spot was trading at JPY157.70 Thursday.

European officials have been pushing for a G7 decision to address yen weakness, while American, Canadian and Japanese officials have resisted it. Traders said the market appeared evenly divided Thursday on the likelihood the subject would be addressed in the official communiqué after the meeting and players were buying all kinds of short-term options.

"Everyone's anticipating some sort of [spot] correction, either up or down," said one London trader. "If they say nothing, that's a green light for the carry trade and spot will gap higher. If they say something it will go lower." As a result, traders reported interest in "anything with a yen in it" and no particular positions or strikes. One trader reported a EUR1 billion eight-day 10-delta euro call with a strike at EUR160. "Everyone's anticipating volatility more than direction," a trader said.

David Woo, head of fx strategy at Barclays Capital in London, said Thursday he does not expect a consensus on yen valuation at the G7 meeting and added vol will come down toward the end of the week as the market begins to understand that not much will happen.

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