The cost of dollar/yen options dropped sharply last week as the dollar reversed weeks of losses versus the yen, in line with a turnaround in U.S. equity markets. Implied volatility fell, with the one-year rate dropping from roughly 9.1% from 9.6% and one-month vol down to 9.75% by Wednesday from 10.75% Monday, according to fx options traders. Dollar/yen spot was near the JPY115 mark at the start of the week before moving higher to JPY119.75 by Wednesday.
"The dollar caught some people by surprise. The thinking was that it would break JPY115, so the move upward has pressured vols lower," said one trader. He and others did not have a firm reason for why spot moved higher, other than stronger U.S. equity markets and a correction of recent dollar weakness. Along those lines, 25-delta risk reversals dropped to 0.6 vol, favoring yen calls/dollar puts, from 1.25 vol Monday. A common trade was for investors to enter short-dated dollar calls/yen puts with strikes above JPY120.
Michael Lewis, senior currency strategist at Deutsche Bank in London, said the dollar's move higher against the major currencies was a correction of recent losses. He added relative to so-called dollar reversals in the past, when the greenback moved sharply and quickly in one direction, investors do not seem willing to put on large bets against a further weakening in the dollar. "The risk among investors is lower than it has been and we have already had quite a violent move in the currency, they're stopping to take a breath," he said of investors. Lewis noted that second-quarter U.S. corporate earnings have also been on the positive side, with 320 companies in the Standard & Poor's 500 Index reporting better-than-expected results, creating positive momentum for the dollar.
