EUR/USD to be Affected by "Huge" Option Expiries at End of Week

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- The EUR/USD rate may be impacted by a large number of options contracts expiring

- Prices may be especially drawn to 1.1700-1.1750 range

- The expiries overlap with a potentially volatile event in form of ECB rate meeting  

"Huge" EUR/USD option expiries scheduled for the end of the trading week could act as an antidote to any volatility sparked by the European Central Bank's July meeting due for midday Thursday, 25.

Data from Thomson Reuters shows the expiries are mostly situated between 1.1700 and 1.1750, with 2.5bn Euros worth expiring in that range on Thursday, and a further 2.5bn on Friday.

There are even substantial volumes of options expiring on Wednesday, with 802m between 1.1650-80, 707m at 1.1700-05 and 1bn Euros at 1.1750.

With the exchange rate currently trading at 1.1703 and at the lower end of the expiry range the effect may be to gently push the exchange rate higher on Wednesday, at least.

Option expiries can impact market direction via a process known as 'pinning' in which option writers try to manipulate the market to avoid costly losses.

Large option expires, valued at above 600m, can impact the exchange rate by acting like a "magnate" to the price, says Jarratt Davis, a renowned forex trader and hedge fund manager.   

"Very often an option expiration of a certain price will act almost like a magnet. For example, if you got an option expiration of a billion on EUR/USD at 1.10 the price will tend to gravitate around 1.10. It might come up maybe beyond 1.10 a little bit but most likely it will eventually come back down. In a way it will just hover around option expiration price until the time of the cut," says Davis.  

The expiries coincide with the ECB's rate meeting on Thursday which can be a volatile event for EUR/USD.

If commentary from the ECB moves the market, the extent of those moves may be constrained or otherwise impacted by options activity, although much depends on the exact time of the 'cut', the deadline for the expiry, as this is when pinning is at its most acute.

Although the effect of the expiries is normally to 'pin' the exchange rate to the option expiry level, there is also risk that a really big move could pivot traders in the opposite direction to the expiry level as they give up trying to manipulate the market and instead join the trend. This is known as a 'Gamma Explosion' and can ignite big waves of buying or selling.   

Is the ECB meeting likely to result in a large move? Analysts doubt it, expecting the ECB to remain cautious due to recent economic data showing a slowdown in the region.

Investors had thought they might receive more detail on the exact timing of the end to the ECB's stimulus programme and the expected date range for the first rate hike, at Thursday's meeting, after the rough estimates provided at the last meeting.

Early expectations were for a potentially bullish reaction from the Euro given the 'pessimistic' market which contrasts with the upbeat tone of the ECB, however, the recent poor run of data has lessened those bullish expectations.

"Following last month’s landmark decision to call an end to four years of quantitative easing (QE), investors will be hoping for more clarity on the ECB’s forward guidance to keep rates on hold “at least through the summer of 2019”, with some reports suggesting that Governing Council members had their own differing interpretations of what this meant," say retail brokers XM in a week ahead analysis.

Yet whether more "clarity" is forthcoming, and, more importantly, how it will impact on the exchange rate is difficult to gauge.

The actual impact on the exchange rate from option expiries depends a lot on the exact type and combination of options expiring and whether they are options to buy (call) or sell (put).

This data, however, is often very difficult to get hold of and therefore traders should use large option expiries as guidelines more than exact indicators, and the best way is to see them as potential magnates for price as in the case of 'pinning'.

"Obviously, the whole answer to the question is complicated. It involves strike prices and calls and whether or not trades are going to be exercising those options. This kind of information, as I said, is very difficult to get hold of. But the simple way of trading this is understanding that really big expiry orders (I'm talking maybe over $600 million to a billion to $2 billion to $3 billion) tend to act like a magnet to the price," says Davis.

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