Options Trading: A Bear Play on the Euro

Posted On January 5, 2018 1:45 pm
By: Steve Smith

The U.S Dollar Index (DXY), which had already been in a steady decline, has seen accelerating selling in recent weeks. This weakness in the Dollar has been one of the more confounding macro trends over the past few months. As we’ll see in a moment, this offers an opportunity for options trading.

According to this recent analysis, the Dollar now stands at a crucial technical support level. As it says, “note the updated dashed yellow boxes from the last post… in all but 1 (the purple box) of the bounces off the cycle low they pretty much did the same thing and then took off. That fractal pattern appears to be in play here … so need to see some nice thrust and strength out of this BUY pattern to give the bulls a warm fuzzy.”

From a fundamentals standpoint, I don’t fully understand what is driving the dollar lower; some point out the rest of the world has been showing better relative growth and the U.S. pace of rate hikes is still tempered.

But I would counter that much of the developed world (Euro and Japan which are weighted heaviest to the Dollar Index) are still engaged in quantitative easing programs and have negative real rates. This should lead to a weakening of those currencies against the Dollar.

For whatever the reason, the Euro has run up above $120 to the Dollar and the FXE has made a potential double-top. The short dollar/long euro seems to be a very crowded trade with little fundamental grounding. This is offers a good risk/reward entry point for a bearish options trading play should this trend reverses course in coming weeks.

I’m looking at buying puts outright, specifically March 116 Puts at $1.20 per contract.

I expect if the FXE fails to make a new high within the next week, it will head lower. My downside target is $113.50. For risk management, I will use a close above $116.60 to exit the position.

Tagged with: options trading

About author

Steve Smith

Steve Smith have been involved in all facets of the investment industry in a variety of roles ranging from speculator, educator, manager and advisor. This has taken him from the trading floors of Chicago to hedge funds on Wall Street to the world online. From 1987 to 1996, he served as a market maker at the Chicago Board of Options Exchange (CBOE) and Chicago Board of Trade (CBOT). From 1997 to 2007, he was a Senior Columnist and Managing Editor for TheStreet.com, handling their Option Alert and Short Report newsletters. The Option Alert was awarded the MIN “best business newsletter” in 2006. From 2009 to 2013, Smith was a Senior Columnist and Managing Editor for Minyanville’s OptionSmith newsletter, as well as a Risk Manager Consultant for New Vernon Capital LLC. Smith acted as an advisor to build models and option strategies to reduce portfolio exposure and enhance returns for the four main funds. Since 2015, he has worked for Adam Mesh Trading Group. There, he has managed Options360 and Earning 360, been co-leader of Option Academy, and contributed to The Option Specialist website.