Let’s ponder a trader thought implied volatility of ATM EUR/GBP call option of 1W expiries indicate overpriced premiums (see diagram for premiums and its NPV).
Thus, it tends to short the volatility. Let's now suppose that we are writing an ATM call option with an amount of 100,000 EUR.
Currently, 1W ATM IVs of EURGBP and EURJPY are at 7.75% and 9.7% respectively.
Thereby, ATM premiums of EURGBP are trading 19.14% more than NPV.
The delta is positive 0.5 since this is an ATM EURGBP call option, the amount would be 50,000 EUR in spot outright.
To remove this potential risk taking place when the underlying market moves, we can buy 50,000 EUR against pounds in the spot market anticipating euro to go up and take the opposite position in EURJPY options as it was in EURGBP, because EURJPY is even more bearish with higher implied volatilities as you can probably observe from the IV and risk reversal nutshell.
This allows the delta neutral position. If prediction goes accurate then profit is certain by longs in call option and shots in EURJPY longs in puts with nil risk as the market moves around as long as you continue to update the Delta hedge.
But always keep in mind that adding long in an option in this case would mean that the returns are possible only when volatility spikes as anticipated.


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