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AUD/USD: Sell vol warrants bearish follow through

FXStreet (Bali) - The current characteristics of the Aussie options market warrants follow through in the breakout of 0.7240, as option participants hedge their exposure to their short volatility positions.

In need to hedge short vol exposure

While historical volatility (20-period) in the AUD/USD options market has been trading steadily higher since the end of September, implied volatility has remained well above historical since early September, meaning that breakouts of value areas (0.7240 was one as per H4 chart), should see directional moves as option players hedge their short volatility (short calls/puts) exposure by selling the underlying asset and hedge their unlimited risk.

Historical vs implied vol gap narrowing

Historical volatility stands at 12.05, based on CME measures, while implied volatility was last quoted at 12.25, with the gaps narrowing ever since the incessant rise in the AUD/USD sub 0.70 late in September. During the 9-day winning streak in the Aussie, part of the reason fueling the relief rally in the Antipodean currency was due, not just to short-covering as the Fed rate hike hopes faded away, but also as a result of a market short volatility, hence vulnerable to a directional bias as hedging strategies came into play.

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