FX COLUMN-Yen option plays alluring as intervention risks rise

— Rick Lloyd is a Reuters FX analyst and John Noonan is head
of Asia FX at IFR Markets. The views expressed are their own —

By Rick Lloyd and John Noonan

SINGAPORE/SYDNEY, Sept 8 (BestGrowthStock) – If you think Japan
will be forced to intervene to weaken the surging yen, it is
worth looking now at plays in dollar/yen options and spot that
will benefit from the resulting volatility.

Japanese authorities can only be disappointed by the slide
in USD/JPY (JPY=: ) ever since last week’s encouraging U.S.
employment data helped give a brief boost to USD/JPY and U.S.
Treasury yields, a move that has since reversed as worries
about the euro zone have resurfaced.

Since the start of the week the break to a 15-year low
below 83.50 appeared all but inevitable, with the coming
Japanese fiscal half-year end seen bringing heavy repatriation
by big companies and institutional investors.

Any intervention is unlikely to be coordinated with other
G7 members, and past episodes of unilateral intervention have
taught us to expect volatility. One way to take advantage of
that volatility is to buy options as protection with a view to
trading the bigger spot swings if intervention occurs.

Traders can consider buying a dollar/yen option (JPYVOL: )
with a low delta, such as 25 delta (at current market an 86.75
strike), with a tenor of two months. Such an option with a $1
million face value would cost roughly $8,000, based on the
Reuters FX options pricing calculator.

The dollar/yen call gives a trader protection to go short
dollar/yen after an intervention-related spike and trade the
likely big swings in spot as authorities step in to buy dollars
and then back away.
This is done by overhedging the options position — shorting
dollar/yen for the full face amount of the option, rather than
the amount typically sold to delta hedge the option.

What makes this strategy attractive are that dollar/yen
implied vols (JPYVOL: ) are still at relatively inexpensive
levels and a long way below the spike levels seen in May this
year, reducing the cost of the option.

Two-month implied vols are quoted at 13.15 percent, well
off the peaks seen in May near 17.5 percent, mainly because the
day-to-day swings in spot dollar/yen have also been subdued
during the drop to 15-year lows.

For a chart on recent vol trends, click:

Also reflecting that investors are not yet paying a premium
in options for protection against big market swings, implied
vols are trading close to realised vol in dollar/yen and
one-month risk reversals are not showing big positioning in
favour of yen calls.
If Japan intervenes, any initial jump in USD/JPY will
inevitably be met with good selling from the many market
players looking for better levels to get out.

These include the exporters who have fallen behind on their
hedging schedules, as a result of yen staying much stronger
than their business plans for levels near 90.

Life insurers and other big investors are expected to
repatriate money from overseas investments back into yen to
cover losses suffered on the Nikkei (.N225: ) at home, as well as
the many speculative accounts that are long from having tried
to pick a bottom in dollar/yen and yen crosses.

The conundrum for Japanese authorities as that any dollar
purchases will likely be invested in U.S. Treasuries,
potentially pushing down U.S. yields versus Japanese yields —
contributing to one of the main factors that have driven
USD/JPY lower.

For that reason, the idea that BOJ could become bolder on
their intervention and reinvest these dollars into other Asian
currencies that compete with Japan for Asian markets has been

But Japanese authorities have never been known for being
bold, and unilateral intervention in dollar/yen remains the
most likely scenario this time around as well.
(Editing by Eric Burroughs)

FX COLUMN-Yen option plays alluring as intervention risks rise