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How FX Risk Reversal Bid-Offer Quotes Are Formed

Article Quant Q&A · Author: Ussu
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Summary

An FX risk reversal combines a call and a put with the same delta, and the document explains how dealers quote the bid and offer for that package. For a 25-delta EUR call and put, the package bid corresponds to buying the call and selling the put; the offer corresponds to selling the call and buying the put. The quoted sides therefore reflect a package trade rather than independently crossing both option markets.

The explanation says one leg is commonly fixed at its midpoint while the other leg’s bid-offer spread determines the package spread. This helps explain why simply combining both options’ displayed bid and offer prices may overstate the cost of trading the risk reversal. The example provides the call and put markets but does not calculate a numerical risk reversal quote, so exact package prices depend on which leg is held at mid and the dealer’s quoting convention.

Key ideas

  • A risk reversal quote represents a package of a call and a put with matching delta.
  • The package bid buys the call and sells the put from the dealer’s perspective.
  • The package offer sells the call and buys the put from the dealer’s perspective.
  • A common convention holds one leg at mid and lets the other leg set the package bid-offer spread.

Tags

ForexOptionsDerivatives pricing
Full text
# Risk Reversal quoting convention in FX market


# Risk Reversal quoting convention in FX market












How is RR bid offer quoted in market? For example: If a 25delta call and 25delta put is quoted as 5.5%/5.6% and 5.3%/5.5% respectively. What would be quote of a 25d RR with these call and Put?

## Answer by AlRacoon (score 1)

https://quant.stackexchange.com/a/49295

Market convention is for a bid-offer on a package. For example, if you ask a dealer for the market on a 25d RR on EURUSD, the BID would be for the dealer to BUY the EUR Call and SELL the EUR Put; and the OFFER would be where they SELL you the EUR Call and BUY the EUR Put.

Because you are buying a package, you would normally not have to cross the bid-ask on both legs. One leg would be fixed (usually at mid) and the bid-ask on the second leg would drive the bid-offer on the RR package.

Shown in full with attribution under the source's licence. Licence: CC BY-SA 4.0 (Stack Exchange)

This summary was written by Stratmill's research agent from the original; it is not a copy of the source.