The euro, sterling and yen look set to face higher volatility in March as fluctuating crude oil prices and political turmoil in the Middle East weigh on markets. The conclusion is based on the standard deviation of forecasts in the March Reuters currency survey, coupled with the actual one-month annualised volatility seen last month.
"March is likely to be a month in which there are significant events - political, economic and policy outcomes - that appear likely to interrupt the steady decline in volatility in currency markets, at least temporarily," said the RBS FX strategy team in a note to clients on Wednesday. The poll implied monthly annualised volatility of 15.1 percent for the euro against the dollar in March, significantly higher than the actual 9.4 percent seen in February.
For the yen against the dollar, the poll suggested volatility of 8.9 percent, higher than the 7.5 percent seen last month.
Volatility for sterling was seen rising moderately to 8.3 percent this month from an actual 6.8 percent in February. The European Central Bank's policy meeting on Thursday could prompt the euro to rally further if ECB President Jean-Claude Trichet adopts a more hawkish tone about taming inflation that is expected to remain above the 2 percent target in 2011.
A Reuters poll of more than 80 analysts, taken last week, saw a consensus view that the first hike from 1.0 percent would come in the fourth quarter, but with inflation running above the ECB's target - and likely to jump higher on soaring energy prices - expectations for an earlier hike are growing.
Sterling rallied to a 13-month high of $1.6330 against the dollar on Tuesday, after stronger-than-expected UK housing data stoked expectations the Bank of England will raise interest rates ahead of the Federal Reserve. Uncertainties in the Middle East and North Africa remained high, and if tensions escalate, investors could again buy the Swiss franc and yen, the two currencies that have tended to benefit the most when risk aversion rises.
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.