Large moves in currency markets are often treated as sudden shocks, typically associated with unexpected market news. As a result, the timing of large foreign exchange (FX) moves is widely viewed as fundamentally unpredictable. Yet FX options markets often tell a different story. Recent research by Kostakis, McBride, Sarno and Wang (2025) shows that a non-trivial share of large FX moves can be anticipated in real time.

The intuition is straightforward. When traders expect turbulence ahead, they bid up short-term options more aggressively than longer-dated options. This behavior creates an inverted term structure of implied volatility (TSIVOL). Importantly, such a pattern reflects anticipation of a large move, not a view on whether the currency will rise or fall.

Not all large FX moves are alike. Some resemble earthquakes: sudden and largely unpredictable. A prominent example is the Swiss National Bank’s decision to abandon the Swiss franc’s peg to the euro (EUR) on January 15, 2015. The CHF appreciated by more than 15% against the U.S. dollar (USD) in a single day. As shown in the left panel of Figure 1, this episode took markets by surprise, with a largely flat TSIVOL prior to the announcement.

Other large FX moves are more like volcanic eruptions, where warning signs gradually emerge. An example is the European Central Bank’s policy announcement in December 2015, which delivered a more limited stimulus package than markets had expected. The EUR subsequently appreciated by more than 3% against the USD. As shown in the right panel of Figure 1, the TSIVOL became increasingly inverted in the run-up to the announcement, indicating rising anticipation of a large move. Options markets appear particularly effective at identifying this latter type of event.

Large FX moves, defined as daily absolute returns exceeding three times recent realized volatility, are rare. Between January 2006 and June 2024, only 266 such moves occurred out of nearly 28,000 daily observations across major currency pairs. Despite their low frequency, these events are economically important. On average, large moves are associated with daily absolute returns of about 2%, roughly five times larger than normal days, and they account for more than 8% of total FX return volatility.

This pattern is not confined to isolated episodes. Across six major USD currency pairs, the TSIVOL consistently becomes inverted ahead of large FX moves, regardless of direction, as shown in Figure 2. As large moves approach, short-dated options become increasingly expensive relative to longer-dated options, reflecting rising concern about near-term tail risk. 

The information embedded in the volatility term structure also translates into option payoffs. Periods in which TSIVOL is strongly inverted are associated with larger payoffs to volatility-sensitive option positions. One example is a strangle, which combines long positions in an out-of-the-money call and an out-of-the-money put and benefits from large price moves in either direction. Such strategies are naturally aligned with environments in which markets anticipate elevated uncertainty without taking a directional view.

Using CME Group FX option data observable in real time, a simple strategy conditioning strangle positions on periods of pronounced TSIVOL inversion delivers economically meaningful performance. This highlights that TSIVOL contains real-time information about large FX moves.

Large FX moves are unlikely, but they are not always unpredictable. When options markets begin to price near-term volatility more aggressively than longer-term risk, they are often signaling that uncertainty is building. By paying attention to how volatility is priced across maturities, traders can better distinguish between genuinely unexpected shocks and large moves that markets are already anticipating.

Download the full paper to read more.

^{*Kostakis, A., McBride, B., Sarno, L. and Wang, J. 2025. “Large Moves in the Foreign Exchange Market”}

^{Professor Lucio Sarno holds the JM Keynes Fellowship in Financial Economics at the University of Cambridge. His research interests include international finance, currency markets, asset management and the effects of monetary and exchange rate policy on asset prices.}

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