The cost of hedging against swings in the pound versus the euro has risen to its highest level in five months as traders position ahead of next week's UK Budget, according to Bloomberg Markets reporter Vassilis Karamanis.
Investors are focused on the country's fiscal outlook and how Chancellor of the Exchequer John Healey will balance the books. The government borrowed more than forecast in the first half of the year, adding to a national debt pile that has topped £3 trillion ($4 trillion).
Euro-sterling one-week implied volatility, which now captures the Budget announcement, rose as high as 4.88%, the strongest since May. Options sentiment, measured by risk reversals, points to expectations for modest pound strength against the euro over the coming week, even as traders pay more to protect against larger moves around the fiscal statement. Traders often use the euro to express UK-specific risks, but that distinction is less clear this time as the euro faces its own fiscal and geopolitical pressures.
The event premium is also visible in the spread between one-week and three-week volatility, which now favors the short end by the most in five months, even though three-week options also capture policy meetings by the Bank of England and the European Central Bank. Meanwhile, UK inflation hit an 11-month high in September after a surge in petrol and diesel costs, leaving the BOE on track for its first interest-rate hike in more than three years. The key question for the central bank is whether the fiscal statement alters the inflation outlook. As David Rees, head of global economics at Schroders, put it, "Expectations are low, but any significant fiscal boost would raise the risk that imported inflation becomes more persistent and force the BOE into a longer tightening cycle."
Source: Bloomberg Markets · Summarized by HeadlinesBriefing