FX Options Insight
The FX options market had not been complacent about potential volatility or further USD weakness, but traders had been reducing premiums ahead of the extended U.S./UK holiday weekend. That calm was disrupted on Friday when Donald Trump announced plans to impose 50% tariffs on the EU starting June 1. Implied volatility surged in response, with key tenors reaching new weekly highs. Benchmark 1-month EUR/USD vols rose sharply from 8.2 to 8.7, USD/JPY climbed from 11.7 to 12.0, and AUD/USD increased from 9.8 to 10.1. Risk reversals remained skewed toward USD puts across major pairs, reflecting the market's expectation of further dollar downside and heightened volatility risks.
Investors are clearly optimistic that the 90-day pause will result in a deal with the U.S.This was particularly evident in GBP/USD, which broke above 1.3500 for the first time in three years, opening the door to a potential move toward 1.4000. Risk reversals showed their highest premium for topside over downside strikes since the 2008 financial crisis, while trade flows revealed strong demand for GBP call/USD put strikes up to 1.4000. Broader gains in implied volatility are likely to remain limited unless the dollar decisively breaks out of its current ranges and extends its recent losses. However, the positioning in risk reversals suggests that such a breakout would trigger another sharp rise in volatility, supporting a buy-on-dips strategy in the meantime.
USD/CNH options don't indicate that a trade war is currently happening. Implied volatility has completely returned to levels seen before the significant increases in early April. The premium for topside risk reversal has been eliminated or reversed. All prices have reverted to the levels prior to the tariffs on April 2, marking longer-term lows. Dealers have noted increased interest in DNT options recently, reflecting a short volatility strategy.
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Patrick has been involved in the financial markets for well over a decade as a self-educated professional trader and money manager. Flitting between the roles of market commentator, analyst and mentor, Patrick has improved the technical skills and psychological stance of literally hundreds of traders – coaching them to become savvy market operators!