Can carry trade interest pay for long option premium?

[setohetteta]

Is it possible to go long a carry pair like AUD/USD via a long call and have the premium for the option paid for by the carry interested earned? In other words, this would make it possible to hold a free position. Or has this already been priced in the option premium?

[sennygiitl89]

There are still brokers that offer FX options? Last I heard, there wasn't enough demand and most places stopped offering them.

[أنور زمان]

As you are purchasing an option to buy an instrument at some point in the future, then you will not own it until the expiry time, if you exercise the option. So I don't see that you can receive interest for the period that you don't own the instrument.

[setohetteta]

As you are purchasing an option to buy an instrument at some point in the future, then you will not own it until the expiry time, if you exercise the option. So I don't see that you can receive interest for the period that you don't own the instrument.
That's what I thought until I read this line in Hedge Fund Wizards:

We did a lot of our trades through options— positions like buying calls in currencies with a carry because the positive carry paid for your option.
This is from the interview with Macro trader Colm O'Shea. I am guessing these might be options that retail traders do not have access to? But apparently it can be done.

[keto70]

someone correct me if I'm wrong, but there's no carry in the derivatives trade - if you want the benefit of carry you'd need to be trading directly the spot fx or swaps.

[setohetteta]

someone correct me if I'm wrong, but there's no carry in the derivatives trade - if you want the benefit of carry you'd need to be trading directly the spot fx or swaps.
That's why I don't get how ColmO'Shea is able to place these trades for his hedge fund.

[باقر عزّ الدين]

Yes, carry can help offset the cost of the option (it's not actual physical carry, in this case, but rather the term structure of the forwards that is implied by the positive carry). It's relatively rare, however, that this carry fully offsets the cost of the optionality, as that would be a free lunch. Still, it happens sometimes and there are some markets even now where this is the case (very hard to take advantage of). And no, to my knowledge, AUDUSD isn't one of these mkts.

[setohetteta]

Yes, carry can help offset the cost of the option (it's not actual physical carry, in this case, but rather the term structure of the forwards that is implied by the positive carry). It's relatively rare, however, that this carry fully offsets the cost of the optionality, as that would be a free lunch. Still, it happens sometimes and there are some markets even now where this is the case (very hard to take advantage of). And no, to my knowledge, AUDUSD isn't one of these mkts.
Martinghoul, thank you for this. Do you know the mkts where this is still possible?

[منصور ضحى]

i actively trade forex options.... there should be several posts of mine on the subject..... can never ever remember noticing receiving or paying swap/interest on any trade.... options just don't entitle you to interest or dividends..... half suspect what o'shea meant by buying calls in currencies with a carry was they were long the audusd by spot trades and at the same time were long via calls.... so the carry trade help out with the price of a call..... such as, being long 10 standard lots of audusd and being long 2 'aum' calls..... using the swap to cover much of the long calls cost....... 'aux' moves inverse of the spot price so it could not be used and also the bid/ask spread will kill ya..... the spread on the 'ndo' is equally high...... for this to work the swap would need to be high and the trades lengthy.....h

[keto70]

i actively trade forex options.... there should be several posts of mine on the subject..... can never ever remember noticing receiving or paying swap/interest on any trade.... options just don't entitle you to interest or dividends.....
right, there's no outright swap via derivatives because you are not buying/selling the underlying, only the right to buy/sell...

[باقر عزّ الدين]

{quote} , thank you for this. Do you know the mkts where this is still possible?
Well, long dated options that involve the traditional funding currencies (e.g. JPY and CHF) is where this generally holds. And no, a trade that Colm was describing doesn't involved buying spot and using the actual carry to offset the cost of the option as someone has suggested. That would be rather silly. It means simply the following (these numbers aren't real): say I buy 2y CHFNOK 6.0 puts; the ATM fwd is at 6.625 mid and the option costs 1.5%. Suppose, for whatever reason, with the 1y ATM fwd at 6.495, the 1y 6.0% puts currently cost the very same 1.5%. In this case, the slide (could be both in the term structure of the fwds and the vol) entirely pays for 1y of holding the option, making the optionality free. In reality, you generally need to go further out and use some really juicy EM crosses to get such an effect. Free lunches are not common.