Case Study.
Institutional execution
of FX transactions.

Initial situation.
FX exposure in US dollars with asymmetric hedging requirements.

An investor with US dollar investments of around USD 200m sought to limit the risk of the US dollar depreciating against the euro against a backdrop of geopolitical uncertainty and persistent inflationary pressures.

The hedging solution was required to combine three objectives: a defined level of protection, limited hedging costs and participation in a potential appreciation of the US dollar within a specified corridor. The hedging horizon was six months.

The challenge extended beyond the selection of instruments. The payoff profile, hedging costs, market liquidity and operational implementation had to be integrated into a robust structure. Ongoing valuation, settlement, margin and cash management, as well as reporting, also had to be taken into account.

7orca approach.

Options structure with a defined hedging corridor.

To achieve the desired asymmetric payoff profile, 7orca developed an options structure together with the client. The objective was to balance protection against US dollar depreciation, hedging costs and participation in potential US dollar appreciation.

The final structure comprised three option components.

• Purchased USD put
• Sold further out-of-the-money USD put
• Sold USD call

The purchased and sold USD puts formed a put spread. Selling the further out-of-the-money put reduced the cost of the protective position. The additional sale of a USD call generated further premium income but limited participation in a stronger appreciation of the US dollar.

The specific structure was analysed using different strike combinations. This made it possible to transparently assess the trade-offs between hedging effectiveness, participation in US dollar appreciation and the net premium.

Trade execution.

Best Execution and operational integration.

In addition to structuring, execution was a key component of the mandate given the USD 200m exposure. Both exchange-traded and over-the-counter options were considered for implementation. As access to exchange-traded instruments was already in place, the transaction was executed using EUR/USD options traded on CME.

As part of the Best Execution process, 7orca requested simultaneous quotes for the entire structure from four liquidity providers. The quotes showed a clear range. In the documented case, the overall structure was executed at a more favourable level than the indicative mid-market level calculated in advance.

In addition to execution, implementation included monitoring settlement and booking by the investment manager, monitoring margin utilisation, ongoing cash management within the segment and periodic reporting on the valuation of the hedging structure.

Client benefit.

Hedging profile, execution quality and ongoing monitoring.

The client received a tailored hedging structure. The level of protection, hedging costs and participation in potential US dollar appreciation were transparently assessed against each other and translated into a defined payoff profile.

Before implementation, it was clear within which exchange rate range the protection would take effect, to what extent it would be limited and from which level further participation in US dollar appreciation would be restricted.

Requesting simultaneous quotes from four liquidity providers provided a robust basis for comparing execution terms. The mandate therefore covered not only the option components but also operational support, margin and cash management, as well as regular reporting.

View the case study. Explore the details.

The full case study is available as a PDF and online.

Download PDF         View the full text online         FX Execution - learn more