Chingo De Dinero

If you have followed the Yen lately, you might have heard the reason for its appreciation is the unwinding of the carry trade.  The main idea for the carry trade on currencies is to borrow in one currency, transfer to another, invest, then in the future, transfer the funds back to pay off the loan, and you will have some left over.  The reason for the leftover is the higher interest rates in the currency you invest in over the one you borrow in.  This was popular with the Yen and Dollar because the Yen rates were so low, and the risk of default for the Dollar are so low.  This works, and is very profitable as long as the currency you borrow in does not appreciate vs the one you invest.  Since Japan wanted to keep their currency weak to help exporters, investors could get a big paycheck.

This has since changed a little since the Yen has appreciated greatly vs the Dollar.  This means that investors started to lose money, which resulted into them closing their position…ie sell Dollars to buy Yen, which resulted in more appreciation.  In the end, a plan that seemed safe and highly profitable turns into a big money loser.

The key to a good carry trade is to find a safe currency which should keep its strength and pays a good rate, and a currency which has a government who wishes to keep it from appreciating, and has a very low interest rate for borrowers.