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FX Derivatives Trader School by Giles Jewitt

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Chapter 15Vanilla FX Derivatives Trading Topics

The following topics highlight common situations that FX derivatives traders come across when risk managing their positions.

Understanding the FX Derivatives Market

Traders must learn the characteristics of the markets in which they are operating. Every market is different and this guides how traders interact with the market and how positions are risk managed. Within foreign exchange there are enormous differences between the spot, forward, and derivatives markets in different G10 and emerging market currency pairs.

Speed

G10 spot markets “tick” (change) many times a second. They are very fast, simple (in the sense that the market consists of a single contract per currency pair) markets in which high-frequency algorithmic trading plays a large (and increasing) role.

The OTC FX derivatives market moves more slowly than the FX spot market for several reasons:

  • Contract range. Vanilla option contracts have two main additional dimensions: maturity and strike. There is therefore a very wide range of different possible contracts that can be traded.
  • Quoting implied volatility. In the interbank broker market and for most institutional clients, prices are quoted in rounded implied volatility terms. This rounding causes volatility prices to be stickier at a given level.
  • Quoting structure. For the majority of transactions, vanilla option trades are agreed in implied volatility terms and then prevailing market data is used to generate full ...

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