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Currency traders appear to be mellowing a little about U.S. election risks.
Measures of implied foreign-exchange volatility have eased back from recent peaks as opinion polls indicate that former Vice President Joe Biden is increasingly likely to unseat President Donald Trump. Investors are also cautiously embracing the idea that Biden’s Democratic Party could end up controlling both chambers of Congress as well — a situation referred to by many as a blue wave.
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“The more Biden’s lead widens, the less the market fears that the election result will not be known, or that the election result can be credibly challenged,” said Alan Ruskin, chief international strategist at Deutsche Bank AG. If the polls remain the same, FX volatility will continue to decline, he said.
A Deutsche Bank index based on options showed that one-month volatility fell on Friday by the most since Sept. 16, dropping to a one-week low. The pullback in volatility comes as the RealClearPolitics average of opinion polls show Trump trailing Biden by 9.7 percentagepoints nationally.
Among developed FX markets, the rising chance of a blue wave is most noticeable in commodity-linked currencies, with the Australian, New Zealand and Canadian dollars among those notching the biggest volatility drops over the past five days.
Meanwhile, the volume of bets on dollar-yen that were placed to hedge price swings around the election are largely in line with ordinary levels. Depository Trust & Clearing Corp. data show about $2.1 billion of 105 strike options on the currency pair expiring around the election date, compared with about $3.1 billion that run off between Oct. 26 and Oct. 30.
Yet while overall FX volatility has calmed, some election jitters persist. There is a gap of around 2 percentage points between the volatility implied by three-week options and one-month options, tenors that expire either side of the Nov. 3 vote. That gap has narrowed slightly in the past couple of days, but remain a noticeable feature of the market.
If Trump were to regain some ground, volatility could rise once again, according to Brendan McKenna, a foreign-exchange strategist at Wells Fargo & Co. But for now a blue wave — and a bigger fiscal stimulus — is what the markets appear to be betting on.
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