Hedge the U.S. Election in Currency Markets
(Bloomberg) -- Currencies might be the best place to hedge U.S. election uncertainty because volatility looks cheaper in foreign-exchange markets relative to other asset classes.
That’s the view of strategists at Morgan Stanley and Tallbacken who have been gauging the increase in volatility in stocks, rates, currencies and commodities ahead of one of the most divisive elections in recent U.S. history.
Among recommendations from Morgan Stanley strategists including Phanikiran Naraparaju and Sheena Shah are bets linked to Korean won volatility, while Tallbacken CEO Michael Purves suggests expected price moves are not particularly high in the euro and yen against the dollar.
“Election hedging and call buying have pushed equity volatility risk premiums to high levels,” wrote the Morgan Stanley pair in a note Thursday. “Consider rates and FX volatility, which are cheapest to own outright.”
With the attention of many investors turning toward November’s elections as a source of risk, the cost of hedging against a contested or delayed result is getting ever more expensive. One measure in the equity market shows the most-expensive event risk on record.
It’s also the case, as Oanda Asia Pacific Pte. senior market analyst Jeffrey Halley said Friday, that “the underlying themes driving the weaker U.S. Dollar will not materially change, no matter which candidate wins. This is not Brexit. Therefore although volatility will rise around Election Day, I expect the weak dollar trend to extend well into 2021.”
While the Cboe Volatility Index and JPM FX Volatility Index have both jumped in recent months, the gauge of implied equity swings is well above levels seen at this stage before the 2016 election, unlike its currency counterpart.
“Perhaps the real election vulnerability then is not in an equity plunge but in the dollar,” wrote Purves in a note Thursday. “Major FX pairs such as euro-dollar and dollar-yen have not shown anything especially elevated in their volatility levels.”
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