After the chaos in end August and early September, when the rupee plunged from 69 to 72.90 in a month, the Indian unit has stabilized around 72 – 73. As a consequence, the USDINR options volatility has come down sharply (after rising in August and September). This is good news at a time of doom and gloom.
How can one benefit from such a fall in options volatility?
A 3-month at-the-money USDINR option (option strike = forward rate), if taken in early September (when options volatility was 8.775%), would cost Rs. 1.26 per USD. In other words, if I buy an 3-month option with a strike equivalent to the forward rate, I need to pay an option premium of Rs 1.26 lacs for an amount of USD 1 lac.
If I buy the same 3-month option today, when the options volatility has come down to 7.65%, the option premium will be Rs. 1.10 per USD or Rs. 1.1 lacs for an amount of USD Rs 1lac. As such, there is a cost saving of more than 12%.
|Deal Date||10 September 2018||1 October 2018|
|Maturity||3 months||3 months|
|Strike Price||73.4750 ( = Forward Rate)||73.4750 ( = Forward Rate)|
|Option Premium (INR per USD)||1.26||1.10|
|USDINR ATM Volatility||8.775%||7.65%|
Have a look at the chart below. The blue line (left hand side Y-axis) indicates the 3-month USDINR at-the-money volatility – notice the sharp decline since mid September. The orange candlesticks indicate the USDINR spot (right hand side Y-axis).