The options market is signaling the threat of a breakup in the 17-nation euro bloc is disappearing as the price of insurance against wild swings in the region’s single currency fall to a five-year low.
Butterfly options that protect against both gains and declines slid to the lowest since March 2008 on Feb. 4. Implied volatility on three-month options on the euro-dollar exchange rate has risen about half as much as a broader gauge of currency volatility this year.
The currencies of nations with top credit ratings have dropped against the euro over the past six months as concern eased that Europe’s currency union would unravel. The bonds of Greece, Portugal, Ireland, Spain and Italy -- the region’s most indebted-economies-- have been the best performers among sovereign debt in that period, indexes tracked by Bloomberg and the European Federation of Financial Analyst Societies show.
“People are talking about the great rotation out of fixed income and into equities now, but the real great rotation we’ve been seeing is a rotation back into the euro,” said David Woo, head of global rates and currencies research at Bank of America Merrill Lynch in New York. “You could argue that this is a climax to the normalization of risk that began last summer.”
Stress in European funding markets has eased since July, according to the Bloomberg Financial Conditions Monitor, the same month European Central Bank President Mario Draghi pledged to do whatever it takes to preserve the monetary union. The Euro Financial Conditions Index exceeded zero in September for the first time since August 2007. It’s highest close this year was 0.665 on Jan. 25.
Draghi lent more support to so-called peripheral debt markets in September when he unveiled an unlimited bond-purchase plan, called Outright Monetary Transactions, or OMT. The bonds of Greece, Portugal, Ireland, Spain and Italy have risen at least 11% in the past six months, leading gains among 26 EFFAS indexes of sovereign debt.
On Jan. 30, 278 financial institutions returned 137.2 billion euros ($183 billion) in the first opportunity for early repayment of the ECB’s initial three-year loans, part of its Long-Term Refinancing Operation. The ECB’s first of two three-year loan operations totaled 489 billion euros. Banks have continued to make repayments in the weeks following.