Options and Forex Trading: Why Options act like Magnets
Forex trading is affected by many different factors. Factors ranging from a country’s unemployment figures, its manufacturing output and even a freak natural disaster could all have an impact on a currency within a pair. Something else that could also potentially affect forex trading are options.
Options, in regards to the forex market, are put or call orders that give a trader the right to sell or buy a currency pair at a specified market price. For example, you could place a call option on the AUD/USD currency pair at 1.0350. That 1.0350 figure is known as your strike price. This would give you the right, but not the obligation, to buy the AUD/USD at this value, which would become attractive if the value of the currency pair increased to, say, 1.0420, as you could buy at below the market price.
Most forex options expire at 1400 GMT. One observation noted over the years, by some forex traders, is the magnetic attraction options sometimes have on the value of a currency pair as an option reaches its expiry. While major economic announcements will usually have a more profound effect on forex trading, the evidence for the effect of options has gathered over the last few years.
One of the theories as to why options have this magnetic attraction is down to hedging. Whether it is a put or call option, each trader looking to benefit on either side of the option. If we use the aforementioned 1.0350 AUD/USD call option (which would act as a put for USD) and say it was live on the market, so long as the market stays at 1.0351 or higher, people backing the call option gain exposure, whereas traders supporting the USD do not. The theory states that this results in a jostling for position that is seen with more regularity as an option reaches its expiry, which pulls the currency pair value towards the option’s strike price.
Whether you are interested in forex or options trading, IG Markets offers a wide range of markets that you can trade on. There are over 70 currency pairs available for Australian traders, as well as a dedicated forex focus and extensive market analysis. IG Markets’ award-winning trading platform also allows you to insert custom notes in its charting solutions, allowing you to keep track of any approaching option expiries.
The above information should not be construed as investment advice. Please consider the Product Disclosure Statement available from IG Markets. CFD trading can result in losses that exceed your initial deposit. In addition, you do not own or have any interest in the underlying asset.
James Paxton is a financial writer with a wealth of experience in writing about the forex market, as well as options trading.