The euro is set to be the most volatile of the major currencies in August on fears the sovereign debt crisis could spread to Italy and Spain, although it may trade in a tighter range than last month, a Reuters poll found. This conclusion is based on the standard deviation of forecasts in the August currency survey, coupled with the actual levels of one-month annualised volatility last month.
But global financial markets sank into turmoil on Thursday, knocking around currencies and sending global stock markets into a tailspin. As such, the data are likely to underplay what could transpire if broader market volatility persists. Volatility in the euro is expected to stay high at 11.6 percent this month, higher than the 11 percent it has averaged this year and 10 percent over the past decade.
Annualised volatility was 12.1 percent in July, when euro zone politicians thrashed out a second bailout for Greece and took steps to actively prevent contagion to other countries that the markets are now challenging. "It sort of confirms the fears in the market that there is implementation risk behind this programme and concerns that contagion remains quite relevant for Italy and Spain," said Shaun Osborne, currency strategist at T.D. Securities, who was also the most accurate forecaster in the July survey. "Volatility will continue over the next few months until we get some clarity on this."
The euro fell 1 percent in July against the dollar even as US politicians wrangled over raising the $14.3 trillion federal borrowing limit, threatening a sovereign debt default or at least a downgrade from the major ratings agencies. Washington reached a last-minute deal on Wednesday to extend the country's debt ceiling by $2.3 trillion. That wrangling, along with an escalating sovereign debt crisis in the euro zone, drove demand for safe-haven currencies like the Japanese yen and the Swiss franc. They gained almost 5 percent and more than 6 percent respectively in July.
Policymakers in Japan and Switzerland reacted dramatically this week to prevent further appreciation which could damage economies that rely heavily on exports. The Swiss National Bank shocked markets on Wednesday when it cut its policy rate by 25 basis points - running counter to the European Central Bank, which is raising interest rates - and flooded the money markets with Swiss francs.
Then on Thursday, Japanese authorities intervened in currency markets to weaken the yen, selling a record 4 trillion ($50.6 billion) according to media reports. The yen is likely to be more volatile this month than it was last month, at an expected 9.7 percent, compared with 8.9 percent in July. The threat of further intervention will likely play a part. The post-War record low for dollar/yen of 76.25 was nearly broken this week before the Japanese authorities intervened.
Expected sterling volatility was lower, at 7.4 percent compared with 8.4 percent in July. Analysts say the divergence of forecasts in Reuters currency polls offers a leading indicator of exchange rate volatility in the following month. Statistical analysis suggests that the more analysts' forecasts diverge for a currency pair, the higher the actual one-month annualised volatility is likely to be in that currency in the following month.
Estimates of future monthly annualised volatility are used to calculate the value of currency options, which give investors the right to buy or sell a currency at a fixed price in the future. Generally, as a measure of financial risk, the wider the expected trading range for a currency the higher the cost of purchasing an option to trade it.
Comments
Comments are closed.