An option room with a view

Let’s say I want a burger. The easiest way to have a burger in a restaurant is to order one, right? Alternatively, we could order the whole menu, which happens to have a burger in it. We’ll end up eating a lot more, but I suppose we’ll still get to the same objective.

In financial markets, if we have a view, there are lots of ways to express it. Let’s say we think EURUSD will go lower, perhaps motivated by the move higher in UST 10Y yields. The simplest way to express this is to simply sell EURUSD spot. What’s the downside (if you’ll excuse the pun)? If EURUSD goes higher, we’ll lose money. Given it’s a spot position, even if we have a stop loss, there could be slippage, in particular if there are moves when the market is closed over the weekend, and also for example during periods of unexpected news, coupled with poor liquidity. Hence, there could be occasions where our loss exceeds a specific cap.

Using options to express this view, for example by purchasing a put option, means that we can effectively cap our loss to the price of the option. As a result, options are often seen as attractive because the downside is limited when we’re expressing a view. However, does this mean we should always use options? ....

To read the rest of the article on the Cuemacro website, please click here!