The cost of hedging against sharp swings in sterling surged to its highest in almost six years on Wednesday, three months before a June referendum on Britain’s European Union membership, and coinciding with narrowing bookmaker odds on a vote to leave.
Sentiment towards the pound has soured this week after the resignation of a senior pro-“Brexit” minister and criticism of finance minister George Osborne and his 2016/17 budget.
Sterling came under more selling pressure on Tuesday on a view that the deadly attacks in Brussels would boost the campaign to take Britain out of the EU.
Implied volatility on three-month sterling/dollar options, covering the period that includes the “Brexit” referendum on June 23, soared to 14.50, the highest level since mid-2010.
Three-month euro/sterling equivalents rose to 13.70, the highest since April 2009, according to Reuters data.
Options give holders the right to buy a currency at a pre-set exchange rate at a specific future date and are used either as protection against big swings in the rate or as a way to speculate on such moves taking place.
The three-month sterling/dollar risk reversals, a gauge of demand for options on a currency rising or falling, showed an increasing bias for sterling weakness against the dollar, trading at 4.5 vols – a measure of volatility – compared with 2.4 vols in favour of sterling weakness on Tuesday.