Traders scour markets for protection amid Ukraine tensions

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 US 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 -- an index which calculates how volatile investors expect stocks to behave in the short term -- is currently trading more than 50 per cent 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 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 US 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 US 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.