FxWirePro: Why long EUR vega strategy with constructive vols rolldown?

As per last weekly reporting, European high yield funds registered an outflow of €771mm (1.3% of AUM) for the week ending 22 November.

There was a €143mm (2.1% of AUM) net outflow for ETFs and a €53mm (0.6% of AUM) net outflow for short duration funds.

Last week’s fund outflow of €806mm (1.3% of AUM) is revised to an outflow of €829mm (1.4% of AUM).

Let’s now move onto the core area, EUR longs are within 4% of their three-year highs. Meanwhile, the 10- year Treasury/Bund spread remains within a whisker of 200bp, a level it broke through a year ago for the first time since 1989.

These are the two obstacles euro bulls need to get through and even if the euro continues to unwind undervaluation with the help of strong economic data and now, optimism that a coalition government can be formed in Germany, it will inevitably be heavy going.

Long positions in EUR bottom-right vega benefit from a positive vol rolldown (refer above graph). They are hence attractive as strategic vol longs.

For instance, the vol rolldown finances roughly 15% of theta in a long 7y30y straddle position and almost 60% of theta in a long 15y30y, making the overall roll down much less penalizing than for the 5y5y benchmark point (refer above graphs).

For the 7y30y, theta cost is completely financed if the 7y30y vol increases in one year’s time by 4.5bp/y (i.e. 0.28bp/d), i.e. moves back to levels seen in 1H’2017. The corresponding breakeven move for the 15y30y vol is only 1.7bp/y (0.11bp/d). Courtesy: SG