Hamlin Lovell wrote an interesting article on CFA Institute’s blog, detailing opportunities in currency carry trading that can offset the near-zero interest rates. Over the last couple of years, the incessant rounds of monetary easing has contracted interest rates in US, UK, EU and Japan, making it difficult to make money from interest income.
In the G-10 countries, the worthy targets with comparatively higher yields would be the Norwegian krone, the New Zealand dollar, and the Australian dollar with interest rates of 1.5 percent , 2.5 percent , and 3 percent, respectively. These currencies can be paired with the low yielding players like, USD, GBP, EUR, Swiss franc and JPY. Lovell argues that JPY/AUD carry trade could return a yield of 3 percent, which is more than one can get from long term bonds and this won’t be vulnerable to the changes in US interest rates.
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In order to go around the counterparty risk from bank or brokers, a much safer option would be to trade currency futures on the Chicago Mercantile Exchange (CME).
In case of currency carry trades in emerging markets, the risks multiply, but yields are definitely higher. Even the lowest interest rates in the EMs beat the highest of those offered by G-10 countries. Brazilian interest rates fall close to 7.25 percent, Indian near 8 percent, while interest rate in Argentina is the highest of all at 20 percent. However, Argentina has a bunch of its own debt problems that have piled up and made it a very risky investment. The greatest risk to trading in emerging markets is the chance of bank or country default, but the high yield kind of offsets the risk. Investors also have the option to trade currencies like, Brazilian real, Czech crown, Hungarian forint, Mexican peso, Polish zloty, Chinese renminbi, Russian ruble, and South African rand, can be traded as futures.
On average, the trends have gone in favor of emerging markets currencies, which have more or less appreciated in the last ten years. The same goes for the save haven money, Swiss franc and Norwegian krone. So the investor has to decide if the lucrative yields in EMs are enough to mask the associated volatility and risk.