In this article, we’ll examine how options provide liquidity in the FX market. Moreover, how they produce sizable and predictable moves. From daily vanilla options, to exotic options barrier, and the uphill battle option defenders face to hold off the market. But first let’s find out what vanilla and exotic options are and who holds them for what reasons.
Vanilla is a type of option which gives the holder the right, but not the obligation to buy or sell a particular currency cross upon expiry. You find daily vanilla options on forexlive.com. These type of options don’t tend to move market a lot, and price does not render the option worthless before expiry. Unlike exotic options where a price violation automatically deactivates the contract. Market tends to gravitate around these option levels, and price action resembles a holding ranging pattern prior to expiry. Commonly holders of these options are, ensuring their stops from their spot positions, or utilize them as part of an investment strategy.
Exotic K.O. barrier options carry higher volatility. If price knocks out the level, the option will cease to exist. High value barrier options are mostly placed by banks, and can easily exceed several billion dollars. It is kept a secret where and when they are bought, but as a rule of thumb if you got a big round number untouched for several weeks. Then there is likely a barrier option lying close. Big banks buy these options as part of their broader risk management strategies.
There are rare and highly volatile periods when a sizable option barrier gets targeted by the market. Usually after the option writer, who stands to loose a lot of money leaks the existence of the barrier. And that’s where the battle between option defender(the option holder) and market begins. The defender will go through great length to defend the level.
Take the below market reaction on USDJPY where the option defender held a level almost to the pip (10TH-14TH NOV 2016).
In times when the upswing flow is strong, the option defender has no chance of winning and will forfeit the position. Usually followed by an explosive move, as stops that were sitting behind the level will trigger, and a barrage of short covering will catapult price further.
These market dynamics happen rarely, and must be acted on when the information becomes available. Most recent exotic barrier I reported, was when USDCAD traded at 1.2730 with an exotic barrier at 1.2800 level. Which was successfully ran over on the 28th FEB 2018.
I freely share when I receive news of these exciting opportunities on my twitter handle @zfxtrading . Furthermore if you are interested in, understand when market flow is one sided, and when it’s ranging. And how to trade on the right side of the market. Please consider my 3 month course where through 12 unique lessons, you’ll gain psychological skills to operate at peak performance, and see trends develop way ahead of time.
March 1, 2018
Thank you Miad.
March 1, 2018
Really love these articles, makes one understand the market better.
January 7, 2020
Thank you very very much Miad.