Brexit polls have been notoriously volatile. Before last week, the stay camp appeared to have gained traction. In a dramatic turnaround since May, some 53% now want to leave and 47% want to stay, a majority of Brits now want to leave from EU group.
The 1w ATM IVS of GBPUSD is above 50%, a Brexit scenario would see GBP volatilities instantly come under mild pressure after the initial reaction, as working hedges are unwound.
Expect unwind of the working hedges, a decent unwinding activity of hedging positions should weigh on implied volatility.
As the initial spot move is likely to be a one-off even if a turbulent period follows, a rationale investor will be inclined to take profit on a working hedge.
The market will also look for risk-off proxies where liquidity stands. During the initial panic, investors should temporarily try to buy volatility in markets where there is room for upside.
Currencies like the JPY and the CHF will be bid, and the dollar should strongly outperform EM currencies.
Well, options do not see a CHF remake, the GBP/USD overnight forward volatility on referendum day is 125, which means that the market is pricing a 6.5% daily move. Since we cannot rule out that the cable could fall to 1.30 from levels above 1.40, involving a decline exceeding 8%, the options market is not unreasonably scared. For the sake of comparison, the removal of the 1.20 floor of the EUR/CHF by the SNB in January 2015 was absolutely unpredictable.
It severely impacted the EUR/CHF, a much less liquid pair than most GBP crosses (Sterling is the fourth most traded currency in the world), triggering its biggest move in a single day since the euro’s debut, with a low below 0.90 from 1.20, and a close below 1.00 (nearly -20% between open and close levels).
The GBP is very unlikely to experience such a move next week. Since the volatility market vividly remembers recent tail risks, it acknowledges that the possibility of Brexit clearly falls into a more benign category than the Swiss event.opt
The material has been provided by InstaForex Company – www.instaforex.com