FxWirePro: Can BoC Accommodate Stimulus Package Amid Pandemic Turmoil? Uphold Options Strips To hedge CAD/JPY

Canadian data announcements have been lined up for this week, with unemployment data has disappointed as the number has risen to 7.8% from the previous 5.6%, while BoC monetary policy is scheduled on 15thfollowed by press meet, while retails sales and CPI flashes to print on 21st and 22nd respectively. 

The market has already lowered its expectations for today’s publication of the Canadian labour market report for March. It expects a loss of half a million jobs and a rise of the unemployment rate by almost 2 percentage points from 5.6% to 7.5%.

At the moment, markets remain unconvinced that the BoC will deploy monetary stimulus in the near future, with cut odds currently sitting at 33% by mid-year. 

On the other hand, economists are essentially split between those calling for cuts against those expecting the BoC to remain on hold.

CAD was also relatedly underpinned by considerable gains in oil, which despite round-tripping of the post- Middle East geopolitical flare-up in the past week, is still 10% higher on net over the last three months. This move lower in the pair sets a higher hurdle for our CAD 2020 view, which has been expecting underperformance, including against the majors like dollar and JPY.

Despite this recent beta-driven CAD strength, the view for underperformance in 2020 on domestic factor still holds amid pandemic Covid-19, though may be less front-loaded than originally expected. This view has been predicated on an expected dovish BoC responding to a broadly-weaker economy, potentially forced to ‘catch up’ to other central banks globally, having earlier eschewed rate cuts in 2019, thereby warranting some catch-up CAD weakness.

OTC Updates and Options Strategy: 

The positively skewed CADJPY IVs of 6m tenors have still been signaling bearish risks, the hedgers’ interests to bids for OTM put strikes up to 75 levels indicating downside risks in the medium terms (refer 1stexhibit). While considering the technical chart for the minor uptrend and major downtrend (2nd & 3rdexhibits). 

Accordingly, we advocated options strips strategy to address any abrupt upswings in short-run and the major downtrend.

We’ve been firm to hold on to this strategy on both trading as well as hedging grounds, unlike spreads, combinations allow adding both calls and puts at a time in our strategy.

Buy 2 lots of 3m at the money delta put option and simultaneously, buy at the money delta call options of 1m tenor. It involves buying a number of ATM call and double the number of puts. Please be noted that the option strip is more of customized version of options combination and more bearish version of the common straddle.

Any hedger or trader who believes the underlying currency is more likely to spike upwards in short run but major downtrend can go for this strategy. Cost of hedging would be Net Premium Paid + brokerage/commission paid. Courtesy: Sentry