Five charts to start your day

Many emerging market have interest rates below those of the Fed

Carry trading has undergone a remarkable shift, with investors now flipping the traditional strategy on its head. Let’s explain how with this chart.

As the Federal Reserve maintains its tight monetary policy stance, emerging-market economies are finding it challenging to sustain competitive yields. This has prompted a surge in what's dubbed the reverse carry trade.

This strategy involves borrowing in emerging-market currencies and investing in the US dollar, which has resulted in a return as high as 9 per cent this year. You can see why this would work in the chart below as the interest rates in many emerging markets are lower than what the US Federal Reserve offers.

Currencies like the Chinese yuan, Thai baht, Malaysian ringgit, and Czech koruna have been used for this strategy for a while now. Meanwhile, the conventional carry trade, which involves higher-yielding currencies like the Mexican peso and Turkish lira, is increasingly funded by currencies other than the dollar, such as the Japanese yen or Swiss franc (not shown in this chart, but the same principle applies).

This shift reflects a broader trend where the dollar's resilience, coupled with yield differentials, has led to losses in many emerging-market currencies. As speculators and even exporters favour the dollar for its higher yield, the outlook for carry and currency moves remains uncertain, with differing perspectives among money managers on the path ahead.

Source: Bloomberg

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