FxWirePro: AUD/USD Theta short/Vega longs in PRBS syncs with OTC indications to hedge RBA event risk

AUDUSD short term & medium term perspectives: in near term, bears lingering for it to breach below 0.7800 where a strong support is observed, noting that the market will be quiet given the Australian holiday and RBA is scheduled to announce its cash rate which is expected to be firmly on hold.

If the Aussie central bank maintain status quo in its monetary policy, as we expect, and the US dollar rises on tighter Fed policy, then AUDUSD could drop to 0.76 by year-end. 

We reckon the USD rebound appears to be prolonging amid the upbeat US CPI and the speculative Fed rate-hiking expectations have remained largely unchanged. A rate hike in December is still only priced in at only two-thirds to give US yields an additional boost. 

Hedge using Reverse Put Spreads

OTC outlook: Please be noted that the positively skewed IVs of 3m tenors signify the hedgers’ interests to bid OTM put strikes upto 0.76levels (refer above diagram). While bearish neutral delta risk reversal divulges the interests in hedging activities for downside risks remains intact amid mild upswings.

Well, the bearish stance has been substantiated by AUDUSD's rising IV in 1-3m which is an opportunity for put longs in long-term and using shrinking IVs of shorter tenors with bearish neutral delta risk reversal can be interpreted as an opportunity for writing OTM puts or theta shorts in short run on time decay advantage as the spot FX market reckons the price has downside potential for large movement in the days to come which is resulting option holders’ on competitive advantage.

Accordingly, we had advocated put ratio back spreads a couple of days ago, wherein short leg is functioning as the underlying spot FX keeps spiking.

So, the speculators and hedgers for bearish risks are advised to capitalize on the prevailing price dips and bidding theta shorts in short run and 3m risks reversals to optimally utilize Vega longs.

We advocate weighing up above aspects and uphold the same option strategy on hedging grounds, we eye on loading up with fresh Vega longs for long-term hedging, more number of longs comprising of ATM instruments and ITM shorts in short-term would optimize the strategy.

So, the execution of hedging positions goes this way:

Short 1m (1%) OTM put option (position seems good even if the underlying spot goes either sideways or spike mildly), simultaneously, go long in 2 lots of vega long in 2m ATM -0.49 delta put options. A move towards the ATM territory increases the Vega, Gamma, and Delta which boosts premium.