The cost of euro/dollar options jumped by just under one percentage point last Thursday as the European Central Bank cut its refinancing rate by 50 basis points to 2.75%. One-month implied volatility stood at 7.5% after the cut on Thursday, having crept up from 7.4% the day before, and 6.9% a week earlier, noted a trader in New York. The euro broke through parity with the currency pair finishing at USD1.01 Wednesday, before falling back just below parity Thursday morning.
In the days leading up to the expected rate cut euro/dollar spot was relatively volatile, said the trader. Much of the activity revolved around buying euro calls/dollar puts, with one relatively large buyer with a strike at USD1.01. Trading after the announcement of the rate cut was slow, with most traders selling volatility. Spot movement was similarly muted.
David Mozina, head of foreign exchange strategy for the group of 10 currencies at Bank of America in New York, predicted the euro will finish the year on a strong note, trading at around USD1.01. Much of the compression of interest rate spreads that follows an interest rate cut was already made on the euro following rate cuts made by the Federal Reserve, thus the bulk of the damage has already been done. Mozina expects the euro will strengthen through next year ending at USD1.08.
EUR/USD Spot & One-Month Implied Volatility
