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Derivatives

Rate Cuts, Terror Attacks Fail To Spark FX Market

The foreign exchange market in 2001 remained largely indifferent to the kind of sweeping macroeconomic movements and exogenous shocks that in different times would have sent spot and implied volatility on a roller coaster ride. As a result, the fx markets were "a really boring place to be this year," according to one options trader.

Spot markets for the major currencies--the U.S. dollar, euro and Japanese yen--remained relatively range-bound during 2001, leading to historically low levels of volatility. And as central bankers slashed interest rates, leading to attractive interest-rate plays, the fx market was sidelined. "We're sitting here all resourced-up and it just hasn't been an fx year," said Greg Kaldor, managing director and head of institutional fx sales at Bank of America in London. "The level of implied vol is a testament to the kind of year it has been."

As a result of low vol and because pairings such as dollar/yen essentially traded within a range of JPY120-125 for much of 2001, "range bets have been the flavor of the year," said Paul Mackel, an fx strategist at Dresdner Kleinwort Wasserstein in Frankfurt. He noted that despite an ongoing U.S.-led military campaign in Central Asia and a resurgent fear of terrorism, volatility has remained stubbornly low, indicating investors' disinterest in the fx options market. One-month dollar/euro implied vol was around 9.7% in late November, near its lows for the year, and is expected to sink lower. "It would be different if customers were interested in taking positions, but they're not," Mackel added.

In Europe, traders said the most interesting time of the year was in mid-summer following the U.K. Labour Party's successful campaign for another term in government. Prime Minister Tony Blair is generally regarded as pro-euro and his reelection spurred a sharp drop in euro/sterling to GBP0.60 on expectations it will converge with the euro in advance of joining the single currency. At the time, options strategists were split over the convergence play, with some such as Lehman Brothers recommending trades to take advantage of a converging sterling while others such as BNP Paribas expected the pound to rebound (DW, 7/2).

Some houses say the dollar's strength may be up. Steven Saywell, a currency strategist at Citigroup in London, said, "we think next year will be one of dollar weakness."

On the personnel side, the most notable firm was Credit Suisse First Boston, which hired more than 30 pros for its fx operations on a global basis by the end of the year, according to Rusty Elvidge, co-head of treasury product sales in London. The hiring started when it nabbed a handful of pros from J.P. Morgan in March (DW, 3/11, 3/18). However, at the end of the year, CSFB let go its veteran vanilla options head Girome Bono. Also on the hiring front, Bear Stearns said it wanted to increase its fx options footprint in Europe (DW, 12/24).

In November Merrill Lynch hired Michael DeSa, a former global head of foreign exchange at Deutsche Bank, in a similar role. "The hire is significant because fx has long been perceived as a poor relation at Merrill Lynch, according to David Rickford, managing director of Dandrick Associates, an executive search firm in London specializing in foreign exchange. "Hiring someone of Michael's caliber must send a clear signal to the market that Merrill intends to be taken seriously as a player in fx." Rickford continued: "He achieved great things at Deutsche Bank," noting that DeSa deserves the credit for the German bank's elevated position in the currency market today.

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