FxWirePro: Attractive Gamma baskets in high beta pairs

Much of AUDUSD's gains have been driven by broad US dollar weakness. But there has also been a partial recovery in Australia's key commodity prices, after very steep declines in April and May. However, beyond multi-week gains, a firmly on hold RBA is likely to keep a lid on AUDUSD, easing to 0.74 by year-end.

From a gamma trader’s standpoint, AUD is of particular interest since this week’s RBA story is new, is less likely to be fully discounted in vols yet, and additional gyrations are in the pipeline as markets test the bank’s tolerance for higher rates/stronger FX. The Gamma is the rate of change of the Delta with respect to the movement of the rate in the underlying market. In the Sensitivity table, Gamma shows how much the Delta will change if the underlying rate moves by 1%.

More broadly, a few takeaways given by JPM’s analysis from the recent week’s price action in options are noteworthy:

Gamma vols (1M-3M) are likely to firm more than Vega (> 6M). Gamma options are less sensitive to spot direction as long as moves are sharp enough to generate enough realized volatility to reward frequent delta hedges.

Longer-expiry vols, especially in classical high beta pairs like AUD, NZD etc are however much more spot-direction dependent and more prone to fall rather than rise when the dollar weakens if history is any guide.

Actual vega declines may be hard to come by in this instance from current depressed levels when front-end implieds are firming, but they are very likely to lag the rally in short expiries.

This also suggests that hitherto steeply upward sloping vol curves should continue their recent flattening pattern, and long front vs short back calendar spreads should continue to perform.