Analysis: Traders scour markets for protection amid Ukraine tensions

Flow Traders

04/02/2022 06:00

By Saikat Chatterjee and Danilo Masoni
    LONDON, Feb 4 (Reuters) - Unnerved by the sabre-rattling
between Russia and the West over Ukraine, traders are scouring
global markets for investments that could provide them with
protection against losses in case the conflict escalates.
    Any conflict risks triggering a rout in riskier investments
such as global stocks and a rush into so-called safe havens such
as government bonds, gold and currencies like the U.S. dollar
and yen, leaving those exposed to equities with large losses.
    Typically, investors hedge against potential losses by
buying assets that would pay out if the situation reverses, such
as derivatives that could profit from a fall in stocks or
commodities.
    But with markets already gyrating in the face of rising
inflation, worries about global growth and tighter monetary
policy, the cost of that protection has gone up sharply in
recent days, according to five traders.
    Europe's equivalent of Wall Street's fear gauge  .V2TX  --
an index which calculates how volatile investors expect stocks
to behave in the short term -- is currently trading more than
50% above its 2021 average, indicating how increased demand is
pushing hedging costs up.    
     Investors are having to peer deeper and farther across
markets for ideas that offer affordable protection. 
     In interviews, traders and investors said they are looking
at a range of strategies, from derivative bets on how wildly
French stocks will gyrate or how much German stocks will fall to
simply looking for assets that are currently out of favour but
would benefit if markets got worse.
    Two traders at major global banks, who requested anonymity
because they were not authorized to speak to the press, said
they are recommending their clients look at the French stock
market and place derivative bets on volatility, a measure of the
intensity of market swings. 
    Their expectation is that volatility in French stocks will
increase in the event of a conflict because it is one of the
most liquid markets in Europe.
    One of the traders, who heads derivatives strategies at a
top bank in London, is recommending that his clients buy call
options on French stock market  .FCHI  volatility, which would
allow them to buy the underlying financial asset at a fixed
price even as it rises in the event of a conflict. 
    To defray some of the cost of such a bet, the trader is
telling clients to sell options on U.S. stock market volatility,
which he thinks is likely to be less impacted by any escalation
of the conflict. Taking such a two-pronged bet would, however,
also reduce some of the profits should a conflict ensue. 
    Swiss bank UBS is recommending buying call options on the
yen or the U.S. dollar, according to a note published this week.
The two currencies would likely strengthen as investors seek out
safe havens in the case of a conflict, making the bets
profitable. 
     Another suggestion from UBS is to buy put options on German
stock benchmarks, a bet that will pay out if the market falls.
That is a possibility because of the reliance of German
companies on Russian energy for production.  urn:newsml:reuters.com:*:nL8N2UD3D8
 urn:newsml:reuters.com:*:nL8N2UC2TT     
    Some investors appear to be taking up that idea. A March
2022 DAX index put option  GDAX140000O2.EX , which would become
profitable if the German index were to fall 10% below
Wednesday's closing levels, saw record volumes on Jan. 24 and
again on Wednesday.
    
    ENDURING APPEAL OF GOLD
    The upfront costs of protection against what many still see
as an unlikely event are leaving some investors reluctant to
hedge, said Peter Ganry, head of strategy at Saxo Bank.
    Investment houses like Amundi, for example, assign only a
10% probability of a full-fledged invasion.
     Ganry recommends a different type of bet -- purchasing
listed market-making firms like Virtu Financial  VIRT.O  and
Flow Traders NV  FLOW.AS , which benefit when market volatility
rises and the difference between the asking and the offering
price of a security, called the bid-ask spread, increases.
    Some like Sumit Kendurkar, a trader at market maker Optiver
in Amsterdam say there is also interest in buying upside calls
on options in energy stocks exposed to both natural gas and oil.
UBS estimates that Russia and Ukraine combined account for
nearly 20% of global gas and oil supplies.
    Roberto Lottici, fund manager at Banca Ifigest in Milan, has
a straightforward old-school strategy of going for gold,
doubling the size of gold and silver investments to 6% of his
fund, while cutting put options and other hedging instruments
that are becoming expensive.    
    “If the situation spirals out of control," Lottici said,
"then it's going to be one of the very few assets that can offer
protection.”

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Russia ukraine graphic    https://tmsnrt.rs/3HrWp7g
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 (Reporting by Saikat Chatterjee and Danilo Masoni in Milan;
Editing by Paritosh Bansal and Elaine Hardcastle)
 ((saikat.chatterjee@thomsonreuters.com; +44-20-7542-1713;
Reuters Messaging: saikat.chatterjee.reuters.com@reuters.net))