A USD2.5 billion dollar/yen volatility trade and the Nikkei 225's unexpected crash triggered a spike in one-week implied volatility, which traders were looking to play last week. The trade, a one-year at-the-money forward straddle on the pair, reportedly executed by a U.S. bank, went through late the previous week. "That's the biggest single outright ticket to go through the yen market in seven to eight years," one trader said. It could not be determined which firms had done this by press time. One-week implied volatility spiked to 9.97% Jan. 12 after the trade from 9.19% the day earlier.
The Nikkei reversal--which started the previous Friday afternoon, sparked by news of an investigation into possible securities law violations at internet firm Livedoor--also dragged down the yen. The dollar climbed to JPY115.86 Tuesday from JPY 114.14 the previous week. Traders were scrambling last week to take profit from the vol uptick by selling short-dated USD/JPY options.
"The Nikkei reflects the confidence of investors in Japan's economy," said Adarsh Sinha, global FX strategist at Barclays Capital in London, explaining why the selloff had a knock-on effect for the yen. "We think the Nikkei selloff was based on a one-off factor and is not a broader reflection on the economy as a whole." But investors have yet to take up directional positions again. "Investors are still on the sidelines trying to decide what [the Nikkei crash] means for the currency," he added.
