FxWirePro: Softer Chinese tone, the major headwind for Aussie – AUD/USD OTC bids for Q1’2019 and hedging options strategy

Since China being the major trade partner of Australia, we emphasized on some Chinese economic indicators. The Chinese economy closed the year of 2018 with a generally soft tone. The official manufacturing PMI declined to 49.4 for December, dropping into the negative territory for the first time since July 2016, illustrating a gloomy economic outlook ahead. As the Chinese New Year is approaching, overall economic activities are likely to remain weak during the holiday seasons. However, the currency outlook is still largely dependent on the trade talks for the time being.

Australia’s poor GDP data was a notable setback to the domestic story but aside from forecast adjustment in Feb, the RBA is unlikely to change its tune in the next meeting, limiting AU yield downside. Commodity prices suggest AUD should be 0.68 in the medium-run, and capitalizing on the abrupt upswings towards 0.71 levels amid a very sour global risk environment will cap rallies. If the Fed enters 2019 still planning some more hikes, AUDUSD should head back to 0.68 levels in Q1 2019.

OTC outlook and Hedging Perspectives (AUDUSD):

Before proceeding further into the strategic framework, let’s just quickly glance through the positively skewed IVs of 3m tenors signify the hedgers’ interests to bid OTM put strikes upto 0.68 levels which is in line with the above projections (refer above nutshell). While bearish neutral risk reversals of the 3m tenors that are in sync with also substantiate that the hedging activities for the downside risks, refer 2nd(RR) nutshell.

Accordingly, we have advocated delta longs for long term on hedging grounds, more number of longs comprising of ITM instruments and capitalizing on prevailing rallies and shrinking IVs in 1m tenors, theta shorts in short-term to optimize the strategy.

Theta shorts in OTM put option would go worthless and the premiums received from this leg would be sure profit.We would like to hold the same option strategy as stated above on hedging grounds. Thereby, deep in the money put option with a very strong delta will move in tandem with the underlying.

The execution of hedging strategy: Short 1m (1%) OTM put option with positive theta (position seems good even if the underlying spot goes either sideways or spikes mildly), simultaneously, add long in 2 lots of delta long in 3m (1%) ITM -0.79 delta put options. A move towards the ATM territory increases the Vega, Gamma and Delta which boosts premium. Courtesy: JPM, Sentrix and Saxo

Currency Strength Index: FxWirePro's hourly AUD spot index is inching towards -134 levels (which is bearish), hourly USD spot index was at 37 (mildly bullish), while articulating (at 07:48 GMT). 

For more details on the index, please refer below weblink: http://www.fxwirepro.com/currencyindex