How to trade currencies: the carry trade and beyond

Thu Jun 24, 2010

Discretionary versus systematic-based approaches

It is generally recognised that the most straightforward way of exploiting proven inefficiencies in the global currency market is through the carry trade. In the simplest terms, this strategy aims to capitalise on the so-called forward rate bias (FRB), which is the tendency of the total return generated by higher interest rate currencies to outperform the returns paid by lower-rate currencies.

A simple example of a carry trade in yen, which has been the most popular low interest rate currency in recent years, is described in a Barclays Capital update. This involves borrowing yen at near-zero interest rates and immediately selling the yen for another currency to invest at higher rates, with the low-cost yen loan therefore 'carrying’ the high yield investment.

"For example," the Barclays note explains, "one such trade would be to borrow yen at 0.5%, sell them for dollars in the spot FX market and deposit the...

ISSN: 2151-1845 / CDC10004H

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