A global bonds selloff has pushed yields up across the board towards post-Brexit highs while the anti-establishment wave sweeping the western world could force a 'No' vote on the Italian referendum in December.
Article / 14 June 2016 at 10:00 GMT

Saxo on Brexit: The UK referendum is still tradeable

Head of FX Strategy / Saxo Bank
  • Brexit vote best traded via options; spot too dangerous
  • CHF, JPY pairs present the most interesting correlations
  • Referendum trade requires a high degree of experience
  • For more on the landmark UK referendum, click here for our Brexit round-up

Oxford Circus
Far from the madding crowd: The UK referendum can be traded, 
but spot forex is not the place to do so. Photo: iStock

By John J Hardy

While the market for options in sterling exchange rates has almost entirely seized up, there are still ways to trade the UK referendum if one is willing to trade the vote indirectly through currency pairs likely correlated with the direction of the June 23 ballot.

The market conditions for trading sterling options over the June 23 referendum was at least somewhat orderly as recently as a few weeks ago, when polls seemed to consistently show a relatively wide margin of victory for the Stay vote. 

Since then, however, a number of polls have shown a far higher risk that the UK will vote to Leave, the market has more or less seized up for sterling options, making it prohibitively expensive to trade sterling through options at this point. 

We must underline that traders’ underlying assumption should be that trading spot directly is too dangerous to merit consideration over the referendum.

Perhaps most traders will want to remain sidelined until the referendum results are in and then look to fade the reaction (or possible over-reaction) depending on the vote. Regardless of the result, even if the market is moving very quickly, liquidity should return quickly and option implied volatility will be crushed back lower in the space of a few days and settle further over the next month. 

Consider the traumatic experience of the Swiss franc revaluation in January of 2015 – an event that was very different as it was not anticipated by the market at the time and generated the largest move in modern market history for a single trading day. 

Swiss franc
The hills were alive with the sound of stops being hit. Photo: iStock 

The one-week volatility at the time spiked to about 40% in the immediate wake of the event (likely similar to where GBPUSD one-week volatility will be when the referendum is a week away), but then faded to below 25% within a week of the spike and below half of that (12.5%) some two weeks later. 

For perspective, EURUSD one-week volatility often shoots well above that 12.5% level ahead of European Central Bank meetings.

So what to do for those who would still would like to have a position that trades the impact of the UK referendum vote? One way is by trading cross-hedges, or looking for currency pairs that are likely to prove highly correlated with the direction in sterling pairs (key currency pairs are shown in the table below). 

We especially single out CHF and JPY pairs as having shown the most contagion from GBP movements in more recent market action as the Brexit fears have been aggravated by recent polling. This significant correlation should mean that a move either way in GBP pairs will likely be echoed, if with lower beta, in these pairs.

Major GBP pairs and correlations with other major pairs


This table shows a 15-day and 40-day correlations matrix (for hourly data through Monday mid-day) for GBP pairs and other major safe haven-linked pairs and EURUSD. Note the stronger positive correlations for the more recent data in EURJPY to all GBP pairs and likewise for EURCHF and even USDJPY as the JPY is heavily bid on Brexit fears.  

Source: Saxo Bank

One side note: EURUSD correlations haven’t budged much for the more recent 15-day data, some of which could be due to the weak US payrolls results distracting the market. It wouldn’t make much sense, however, in a Brexit scenario to see a weaker euro against the JPY and CHF but a rallying euro versus the US dollar. 

The EURUSD data, then, may be misleading for the post-vote action (i.e. we suspect GBPUSD and EURUSD to be positively correlated regardless of the result).

For traders, it is consequently possible to construct trades using instruments like EURJPY, EURCHF and even USDJPY that are likely to correlate highly with the direction in GBP crosses over the Brexit vote. Options volatilities are still quite expensive for these pairs, but spreads are lower and pricing more palatable for those who are late to hedging the UK referendum outcome. 


Traders looking to avoid the worst of the Brexit volatility may consider 
looking towards Japan and the yen crosses. Photo: iStock

For example, for those who believe a Stay/Bremain vote leads to an enormous relief rally in GBP and selloff in CHF and JPY:

  • On June 14, a 1 July expiry EURCHF 1.0950 call (spot ref. 1.0845) costs about 69 pips 
  • On June 14, a 1 July expiry EURJPY 122.00 call (spot ref. 119.35) costs about 120 pips 

Alternatively, and more expensively because this is where the market is looking to buy protection ahead of the referendum, a Brexit vote leading to an enormous GBP selloff could lead to EURJPY, USDJPY and EURCHF spiking lower in sympathy if the correlations hold. 

It is likely the negativity rubs off on EURUSD as well due to the feared implications for the Eurozone, so examples of options strategies for the Brexit scenario are:

  • On June 14, a1 Jul expiry 1.0750 EURCHF put (spot ref. 1.0750) costs about 87 pips 
  • On June 14, a 1 Jul expiry 117.50 EURJPY put (spot ref. 119.20) costs about 168 pips 
  • On June 14, a 1 Jul expiry 1.11 EURUSD put (spot ref 1.1255) costs about 98 pips 

Important note: only traders with a comprehensive knowledge of options should consider trading them.

— Edited by Michael McKenna

John J Hardy is head of FX strategy at Saxo Bank


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