An easy way to avoid the rising costs of Brexit insurance .... don't buy any.

Thursday 2nd June 2016

An easy way to avoid the rising costs of Brexit insurance .... don't buy any.

ref :- "Sterling volatility leaps on Brexit poll" , The Financial Times, Markets and Investing

ref :- "Pound Trader Keeps His Head When All About Him Are Losing Theirs" , Bloomberg online

Not everybody has total faith in them to put it mildly, but news that a second Guardian / ICM poll has given the Leave campaign a 52 - 48 lead in the Brexit debate has set a few alarm bells ringing. Not surprising therefore that the cost of insuring against large moves in the price of Sterling is climbing steeply as investors are forced to contemplate the real possibility that Britain may actually vote to quit Europe.

When commentators talk about the cost of insuring against currency moves, they often refer to the level of Implied Volatility in the underlying contract. The Implied Volatility in large part dictates the price of option contracts designed to protect investors from those moves  --  the higher the volatility, the more expensive the option. 

In the case of Sterling / US Dollar, the increasing chances of a vote for Brexit has increased the level of the much watched one-month Implied Volatility to above 20 yesterday -- to put it in perspective, that's the highest since Feb 2009. It was higher at the height of the crisis in Oct 2008, but by any standards a 10 point surge in recent days reflects not only that the June 23 referendum will take place within its one-month timeframe but also the fact that confidence in a Sterling supportive "Remain" vote is definitely not what it was.

For most people, that is. Currency guru Adrian Lee has no such worries and has declined to hedge any further against a post-Brexit slump in Sterling on the grounds that it's unlikely to happen. That's a remarkably sanguine view and definitely not one shared by everybody. But Mr Lee might argue that even if a vote to leave did happen and it brought about a 20% slump in Sterling within days say, the effects are not likely to endure and therefore the costs of insurance are just too high.

Just in case one was to take the view that Mr Lee might be a little too relaxed over the possibility of a Leave vote, in a revealing aside he does let slip that his company's positions are slightly short-sterling anyway, but that's because of a negative view of the UK's basic fundamentals rather than anything to do with Brexit. Ah, that might explain it then ..... it's a lot easier to advise against chasing expensive cover against a pro-Brexit vote if ultimately you happen to be positioned that way anyway.

  

Breaking news ..... or non-news

NO OUTPUT AGREEMENT FROM OPEC ...... There never was going to be , was there ? Well, to our considerable surprise, there were a number of talking heads on financial news channels this morning suggesting something might be in the offing :  a deal without Iran, perhaps ? Think again, and oil marked $1.00 lower.

NO CHANGE AT ECB ...... No changes in rates, not too much in the way of inflation and growth revisions, and an outline of what corporate bonds might be eligible for QE purchases ...... oh, and a bit of a telling off for governments not doing enough fiscally and in terms of structural reform. Quite right too .....