BUZZ-FX options wrap - Central banks, tariffs and strike zones risks

FX option implied volatility has found a floor since last week's post inauguration cull, especially in USD/CAD where tariffs threatened for February 1 are keeping volatility and topside risk premiums near 2-year highs.

That tariff threat has limited USD/CAD implied volatility setbacks, with trade flows showing demand for topside strikes, especially through early February. The Bank of Canada is expected to cut rates by 25bps on Wednesday and forward guidance will be key in light of the tariff threat.

The U.S. Federal Reserve is expected to leave rates on hold late Wednesday and isn't attracting much in the way of additional FX volatility risk premium. However, EUR/USD overnight implied volatility posted an increase from 11.0 to 15.5 since Tuesday as the expiry now includes an expected 25bps rate cut from the European Central Bank on Thursday.

EUR/USD 1-month implied volatility found support at 7.5 and 1-year 7.15 this week, since dropping from 9.2 to 7.2 and 8.0 to 7.0 respectively last week. Trade flows show interest to own downside strikes via exotic options, and risk reversals are maintaining their stronger premium for downside versus upside strikes to highlight the most vulnerable side of this market.

There are billions of euros of soon-to-expire option strikes around 1.0400 which could help to limit EUR/USD ranges and volatility through early February.

There's been minimal interest in GBP/USD options with benchmark 1-month expiry clinging to the lower/mid 8's since last weeks slide from 10.25. AUD/USD 1-month implied volatility has eased from Tuesday's 9.9 recovery high to 9.7, having fallen from 11.0 to 9.0 last week. Premiums and flows in both of these pairings suggests their downsides remain vulnerable.

USD/JPY implied volatility has almost reversed Monday's surge higher as stock and spot markets settle for now.

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