FxWirePro: ‘Diagonal Options Strips’ for CAD/JPY smart hedge ahead of BoC’s rate hikes

Bearish CADJPY scenarios driven by:

NAFTA renegotiations break down and breakup fears return

BoC does not hike

US growth expectations upgraded on policy driving a broad $ rebound

Bullish CADJPY scenarios driven by:

BoC hikes 25 bps

Local crude oil prices rises sustainably above $70/bbl triggering a renewed investment cycle

Severe deterioration of US politics and geopolitics dent US growth expectations and further widen out the broad dollar discount much further.

However, CADJPY is one of the better candidates since recent CAD weakness has undershot recent moves in oil and rate spreads. But any recovery in crude oil prices may cushion CAD in the upcoming days.

OTC Updates and Options Strategy:

Well, please be noted that the positively skewed ATM IVs of 1m tenors indicate the hedging interests of OTM put strikes upto 83.250 levels, IVs of these tenors are trending between at 8.79-9.5%.

Contemplating all these driving forces of CADJPY, we reckon that the underlying pair has equal chances of moving on either side but with more potential on the downside, accordingly, we advocate options strips strategy on both hedging as well as trading grounds to factor-in all above stated driving forces.

It is wise to initiate longs in 2 lots of 2m ATM -0.49 delta puts, simultaneously, add long in 1 lot of ATM +0.51 delta call of 1m expiry, the payoff function of the strategy is likely to derive positive cashflows regardless of swings but more potential from the underlying spot FX moves towards the downside.

The risk is limited to the extent of the premium paid to buy the options.
The reward is unlimited until the expiry of the option.

Please note that the trader can still make money even if he was wrong, that means the strategy likely to derive handsome yields in premiums regardless of swings. But the spot FX has to move in the opposite direction really fast. The 1 call bought has to beat the cost of buying all the options and still bring in some profits.

Currency Strength Index: FxWirePro's hourly CAD spot index is displaying shy above -89 levels (bearish), while hourly JPY spot index was at -57 (highly bullish) while articulating (at 07:09 GMT). For more details on the index, please refer below weblink:

http://www.fxwirepro.com/currencyindex