FxWirePro: Gold Risk Reversals Signal Upside Risks and 3-Way Straddle Versus Put to Derive Exponential Yields

FxWirePro: Gold Risk Reversals Signal Upside Risks and 3-Way Straddle Versus Put to Derive Exponential Yields

Gold futures for June delivery on the Comex division of the NYME have jumped again to an intraday high of $1,299.00 a troy ounce, the most since January 2015, before paring gains to end at $1,290.50, up $24.10, or 1.9%.

Safe-haven demand strengthened after the BoJ chose on Thursday to hold its monetary policy, defying market expectations for additional monetary easing.

Evidently, the precious yellow metal prices soared to a 15-month peak on Friday, as a broadly weaker U.S. dollar and indications that the Federal Reserve was in no hurry to raise interest rates boosted the yellow metal.

OTC Observation: The implied volatility of 1W XAU/USD ATM contracts 18.6% and 16.35% for 1m tenors.

While, risk reversals are still signaling upside risks, considering above fundamental developments in bullion markets we think the opportunity lies in writing an OTM put while formulating below strategy for gold's fluctuation at this juncture.

Technical Inference:

The price of precious metal has been surpassing all major resistances decisively in February series thus far, 1st at 1200.43 and at 1225.60 where demand was seen more than supply and for now (April month series) has acted these levels as a supports at the same levels, if it does not mange to hold these levels then 1250 is quite certain event.

Bullish trend substantiated by volumes, leading as well as lagging indicators, testing now resistance at 1294.50.

Hedging Framework: Strategy: 3-Way Options Straddle versus OTM Put Spread ratio: (Long 1: Long 1: Short 1) The Execution:   Go long in XAU/USD 2M At the money delta put, Go long 4M at the money delta call and simultaneously, Short 1M (1%) out of the money put with positive theta.

Rationale: Bidding short term risk reversals with writing 1W OTM put contracts,

As stated above bullion market remains safe-haven demand especially strengthened after the BoJ that keeps us eye on shorting such expensive puts with shorter expiries. As a result, we capitalize on such beneficial instruments and deploy in our strategy.

Please be noted that as the cash inflows as the underlying prices keeps spiking, their corresponding payoff structure has been exponential, for every rise in spot the corresponding payoffs would be doubled.

Please also note that the expiries shown in the diagram are just for the demonstration purpose only, use accurate tenors as stated above.

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