Divyang Shah
IFR Senior Strategist
(Updates with charts)
The communication doors are now wide open in the ECB it seems. The central bank has embarked on an exercise to show its willingness to do whatever it takes to fulfil its inflation mandate.
What’s interesting is how the spec community has been building some significantly large interest in OTM euribor calls since the ECB meeting on November 7.
On Tuesday, we had Asmussen focus on negative interest rates, while Constancio appeared to agree with Praet on the QE discussion, saying also that he had nothing to add.
We have had the usual cautious stance from Weidmann who is not in favour of talking about further easing so soon after the Nov rate cut.
There are no further ECB speakers scheduled today (Wednesday) but on Thursday we have Asmussen, Coeure, Draghi and Weidmann, while on Friday Draghi and Weidmann once again return, joined by Noyer, Nowotny, Visco and Praet.
The impact of QE will be significant for the markets and particularly for those asset classes the ECB chooses when it looks to expand its balance sheet.
But markets are uncertain as to the timing and form of QE and hence are choosing to make some big bets on OTM euribor call options instead of trading the outright. This is essentially a play on the ECB cutting the deposit rate into negative territory, something the ECB has for some months told us it is operationally prepared for.
Some in the market are much more aggressive in playing for a negative deposit rate with heavy options volume on 100 strike call options on euribor.
The Mar, Jun, Sept and Dec expiries on 100 strike euribor calls have open interest of 98k, 161k, 114k and 104k respectively.
The open interest was built up largely on Nov 7/8 (following ECB surprise rate cut) and Nov 14/15 (post-Praet QE comments).
We concur with the specs in the logic of playing for an ECB surprise and the attractiveness of using OTM options to improve risk/reward.
A couple of suggestions are to look at Dec14 euribor options with a 99.875 strike…
100 strike euribor options Dec14
… or if you believe that the ECB will move before March take a look at March 15 mid-curve plays. Mid curve options are traded on the March 15 contract, but expire in March 14.
