CARRY TRADES IN FOREIGN EXCHANGE

Borrowing money at low interest rates to fund higher-yielding loans has been the conventional source of revenue for banks for as long as credit currency carry trades, whereby hedge funds, asset managers, or individuals borrow funds in low-yielding currencies (funding currencies) to convert and deposit the proceeds in bonds or certificates of deposit in higher yielding currencies, aiming to reap the return from the interest rate differential. An extra return can be obtained during the appreciation of the high-yielding currency, while in other cases the currency depreciation is greater than the interest rate differential, making the carry trade a losing investment. The two components on which carry trades rest are therefore currency- and yield-related. Continue reading