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  • Open interest in the Mexican peso has tripled in 2022 – partly helped by peso strength against the U.S. dollar 
  • CME Group options data reveals significant interest in USD/JPY puts around 133 and 142
  • The FX volatility curve has steepened in “fear” territory, but overall CME FX volatility has been falling

Investors Favor Mexican Peso

The best-performing actively traded currency against the U.S. dollar in 2022 has been the Mexican peso. It has rallied over 6%. This is better than the 3% appreciation in the Brazilian real and considerably better than the 8% decline in the euro and 16% drop in Japanese yen. 

As an oil exporter, Mexico has benefited from the 60% rally in oil prices in the first half of 2022. Its central bank has also raised the policy rate from 5.5% at the start of the year to 10% in November 2022 – among the highest in the world. Importantly, it is higher than the Mexican inflation rate of 8.4%. This means the policy rate is positive in real terms. This contrasts the US, where the policy rate of 4% is still below the US inflation rate of 7.7%. All these forces have helped propel the Mexican peso in 2022. 

Investors have noticed. Open interest in the widely traded Mexican peso futures and options contract on the CME Group has jumped almost 200% this year to near the highest on record (Chart 1). Moreover, both asset managers and hedge funds favor long positions in the currency. We find asset managers had modest net-long positions in the Mexican peso a year ago, but these have now grown to the largest on record (Chart 2). Hedge funds were short the Mexican peso at the start of the year but have now turned heavily long (Chart 3). 

Macro Hive take: We would monitor investor positioning in coming months to see whether the Mexican peso will be one of 2023’s favorite trades. From the macro side, the path of oil prices, the stance of the central bank, and the broader path of the U.S. dollar will be key to continued peso strength.  

Option Strikes

USD/JPY has seen a major turnaround. In October, the currency pair breached 150, but by late November, it had fallen below 140. The shift in sentiment towards the currency is also apparent in CME Group data on the most popular strikes in USD/JPY FX options. The data shows the following:

  • Below 139, there is more demand for USD/JPY puts than calls, suggesting investors expect scope for USD/JPY to fall further – the largest strike is at around 133 (Chart 4) 
  • Above 139 we see more moderate net demand for USD/JPY calls over puts, but at around 143, we again find more bearish sentiment on USD/JPY with more demand for puts than calls

What to watch: The key driver for USD/JPY has been U.S. 10y yields. These peaked in October but have since fallen. Therefore, if this continues, USD/JPY could still see declines. The key upcoming events likely to impact U.S. yields are US CPI on December 13 and the Fed meeting on December 14. 

FX Investor Risk Appetite

CME Group has a range of FX volatility data to help investors track the level of volatility. We can also use FX volatility data to determine investor risk appetite. We find the shape of the FX volatility curve useful in this regard. When shorter-dated FX implied volatility is higher than longer-dated volatility, this suggests investors are worried or in panic mode. In contrast, when shorter-dated FX volatility is lower than longer-dated volatility, this suggests investors expect calm markets. The latest data finds:

  • In recent weeks, the FX volatility curve has steepened sharply, suggesting investors are in “fear” mode (Chart 5)
  • However, CME Group’s CVOL volatility indices have broadly been falling –  CME Group G5 aggregate FX index has fallen from 12.7% at the end of October to 11.2% more recently
  • Outside FX, both equity and rates volatility have declined
  • Overall, this suggests that outside the FX volatility curve, most markets appear to be signalling a “calmer” backdrop
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