FxWirePro: USD/CNH Hits 2-Year Highs, Just 150 Pips Away from All-Time Highs - RV Framework and Options Structures

The FX market appears to be holding the nervous to witness whether USDCNY could breach above the 7.00 mark as soon as this week. Media reported that the US is warning to levy tariffs on all Chinese goods if the Xi-Trump meeting next month fails to ease the trade war, which has further weighed on market sentiment and send USDCNH to beyond 6.9750 (2-year highs, refer 1stchart). CNY experienced a volatile movement this morning. USDCNY opened close to 6.97, the highest since 2008. 

Nevertheless, President Trump mentioned“we will have a great deal with China, and it has to be great.”as per the interview with Fox News during Asian noon time. While he also added that in his opinion China is not ready for the deal, the overall tone of his interview sounds a bit more optimistic than before, which has somehow triggered some optimism in the market and fuelled the hope that the Xi-Trump meeting could bear some positive results. Both CNY and CNH eased the losses on the back of this piece of news. 

Technically, USDCNH major uptrend still looks so robust, no traces of bearish indications for now, more rallies seem to be on cards upon bullish EMA & MACD crossovers, as both RSI and stochastic curves substantiate buying sentiments.

RV framework and options structures:

The implied volatilities (IVs) seem to have factored the above price sentiments as the positively skewed IVs of USDCNH of 1m tenors (refer 2ndchart) are signalling further upside risks. The RV between USDCNH and AUDCNH options is clearer in the 3rdchart, which presents our usual conditional trade framework for evaluating relative rich/cheap for directional (live / non-delta-hedged) options. 

An isopremium line of 9M options – a string of 9M maturity zero-cost long USDCNH vs short AUDCNH option strikes (assuming equal CNH notionals on both legs), presented on both axes as their percentage distance from respective spots – is overlaid on a scatter of 3-month spot returns; the slope of the isopremium line can be interpreted as the option- implied beta between the two assets, which can be compared against the historical spot return beta for an assessment of relative value. The stark asymmetry of option pricing vis-à-vis spot returns on both sides of the distribution – nearly 100% of the historical return scatter is below the isopremium line for CNH puts and above the isopremium line for CNH calls – suggests that options are anticipating excessive moves in AUDCNH in both directions for given moves in USDCNH than the empirical experience of the past few years has delivered. 

This implies value in owning USDCNH strangles against AUDCNH strangles; we retain the short leg of this RV as is, but tweak the long leg to contain only USDCNH calls given our directional view of medium-term RMB weakness.

Thus, a zero-cost option implementation is proposed for owning USDCNH upside by buying USD calls/CNH puts financed by selling AUDCNH strangles (live, no delta-hedging): Off spot refs. 6.96 (USDCNH) and 4.90 (AUDCNH), buy 9M 7.12 strike (40-delta) USD calls/CNH puts vs short 9M OTM 4.50 – 5.30 AUDCNH strangle, equal CNH notionals/leg for zero-cost. The USDCNH call costs 165bp standalone (mid). Courtesy: JPM

Currency Strength Index: FxWirePro's hourly CNY is flashing -72 (bearish), hourly USD spot index was at 76 (bullish) while articulating at (14:07 GMT). For more details on the index, please refer below weblink:

http://www.fxwirepro.com/currencyindex