Speaker 1: Bloomberg Audio Studios, Podcasts, radio news.
Speaker 2: Hello from Hong Kong, David Gura, What hi, Hello from
Speaker 2: New York. It is great to talk to you across
Speaker 2: the ocean. And it looks like if I squint here
Speaker 2: and look at my zooms when you're having dinner in the.
Speaker 1: Studio, very good eyes, I am. And it's at the
Speaker 1: heart of our episode today. It explains the rocking global
Speaker 1: currency markets. Right now, let me show you what I'm
Speaker 1: having so you can drool over it through zoom. You
Speaker 1: see here, see if you can see this, can you see?
Speaker 2: I just look at that chopsticks in hand, and it
Speaker 2: looks like a dumpling. Is it a dumpling?
Speaker 1: It is, But it's not just any dumpling, David. This
Speaker 1: is a Shao longboo, a soup dumpling, right. It's got
Speaker 1: yummy broth inside, and it's from a famous Taiwanese restaurant
Speaker 1: called Didn't Tai Phong. They've got branches in New York
Speaker 1: and here in Hong Kong, all over the world.
Speaker 2: And let me get this straight. Their soup dumplings are
Speaker 2: behind what's rocking the global currency markets.
Speaker 1: They are in a way. I'll let Shuley Wren explain
Speaker 1: she's a Bloomberg opinion columnist to covers Asian markets.
Speaker 3: Yes, so the challona in it's kind of like the
Speaker 3: big mag indecks that tests out the purchasing power of
Speaker 3: the world's biggest the cosmopolitan cities. Ding Typhoon was expanding
Speaker 3: outside of Taiwan and the opening restaurants in the biggest,
Speaker 3: the most posh cities. And the idea is that if
Speaker 3: you look at the global cosmopolitans like Dubai, Hong Kong, Singapore, London,
Speaker 3: New York, the cost of Shallon Bau should be the same,
Speaker 3: and the it turns out they can be quite different.
Speaker 1: So, David, we would have ordered you some dumplings from
Speaker 1: the DN Typhoon in New York apparently, but apparently they
Speaker 1: don't do takeout or delivery. And get this, you have
Speaker 1: to book seats at midnight a month and.
Speaker 2: A month in advance. My gosh, how good are these dumplings?
Speaker 1: They are very delicious. Luckily for us here in Hong Kong,
Speaker 1: they're much easier to get a hold of, so I
Speaker 1: use the equivalent of ten US dollars to buy Dntai
Speaker 1: Fung dumplings and I got around six shallong bows. Right,
Speaker 1: And even though we didn't manage to get dumplings delivered
Speaker 1: to you in the studio there, we did we will.
Speaker 1: At some point we did look up the price and
Speaker 1: get this, you'd only get about five dumplings.
Speaker 2: Only five, only five.
Speaker 1: But in Tokyo, once you traded your ten US dollars
Speaker 1: for Japanese yen, you'd get around eight dumplings.
Speaker 2: Okay, So ten US dollars goes further in Japan, and
Speaker 2: I guess that's a sign that maybe the yen is
Speaker 2: just a little bit undervalued. Oh, I get it. This
Speaker 2: is all about all the carry trade news.
Speaker 1: That's right. Carry trades, right, they're pretty technical inside market stuff.
Speaker 1: You don't usually hear it in the broader news. But
Speaker 1: recently a whole bunch of carry trades went south and
Speaker 1: took the markets with them.
Speaker 2: Yeah. I've watched the value of the en rise quite
Speaker 2: a bit against the dollar, and that hammered a bunch
Speaker 2: of these trades.
Speaker 1: That's right. Not mentioned it left a lot of investors
Speaker 1: with balance sheets that looked a little bit like, you know,
Speaker 1: the watery inside of a soup dumpling.
Speaker 3: Here.
Speaker 1: So today, as part of our ongoing series. Bloomberg explains,
Speaker 1: we're talking about carry trades, how they work, what went wrong,
Speaker 1: and why it hammered global markets.
Speaker 2: I'm one huh, and I'm David Gerret and this is
Speaker 2: the big take Asia from Bloomberg News.
Speaker 1: So, David, the news has been full of carry trades lately.
Speaker 1: They've been making a lot of headlines.
Speaker 2: Yeah, they're new to a lot of people, but the
Speaker 2: trades themselves have a long history.
Speaker 1: Here's Shuley renagain, a Bloomberg columnist who covers Asian markets.
Speaker 3: Carrie trade has been going on for a long time.
Speaker 3: It's really simple. It's basically taking out cheap loans from
Speaker 3: countries that have very low interest rate, and then the
Speaker 3: investors in turn exchange it into another currency and invest
Speaker 3: in countries that have much higher yielding assets.
Speaker 1: I've got to really simple example, David. Let's say I
Speaker 1: borrow one thousand dollars worth of Japanese in from a
Speaker 1: Japanese bank. Let's say you're that bank.
Speaker 2: Okay, I'll lend you that one thousand, and I'm going
Speaker 2: to charge you a little interest for that loan.
Speaker 1: And in Japan it's very little interest, right, So for
Speaker 1: a long time, the Bank of Japan's main interest rate
Speaker 1: was basically zero. Now, assuming I get that rate, I'll
Speaker 1: convert this money I've borrowed into US dollars and lend
Speaker 1: out that money at around five and a half percent,
Speaker 1: which is the rate in the US at the moment.
Speaker 2: This sounds like a pretty good deal for you.
Speaker 1: It is. Now, when the person I lent money to
Speaker 1: pays back my loan, I get back that one thousand
Speaker 1: dollars plus interest, let's say it's one thousand and sixty dollars.
Speaker 2: Now you pay me back one thousand dollars I lent you,
Speaker 2: but I didn't charge any interest or very little interest.
Speaker 2: And assuming and this is a big assumption here, that
Speaker 2: the exchange rate stays the same when you pay me back,
Speaker 2: you get to keep that sixty bucks.
Speaker 1: Right, not a bad profit?
Speaker 2: Right, not at all. And that there is the appeal
Speaker 2: of the en carry trade.
Speaker 1: It's got a funny name. Why is it called a
Speaker 1: carry trade?
Speaker 3: It's an esoteric name. The traders like to use the
Speaker 3: word carry. Basically Carrie Mings earning interest rate differentials, and.
Speaker 1: You're essentially carrying that until you make.
Speaker 3: A profit, yes, like you're carrying a baby. It's like
Speaker 3: a pregnancy carry out baby.
Speaker 1: A little profit baby, the kind the markets really love.
Speaker 1: As Shirley said, the carry trade has been around for
Speaker 1: a long time, but.
Speaker 3: The most famous carry trades are done by the Japanese
Speaker 3: retail investors, the so called a missus u watanabe.
Speaker 1: The so called missus watanabi refers to Japanese housewives. It's
Speaker 1: kind of hard to trace when the term started to
Speaker 1: first be used, but we do know that the newspaper
Speaker 1: The Economist popularize the current use in the late nineteen nineties.
Speaker 1: That's when the Bank of Japan, desperate to stimulate economic activity,
Speaker 1: turned to a policy of keeping interest rates near zero
Speaker 1: or even get this negative.
Speaker 3: So the missis wanta nabbies, they will be actually managing
Speaker 3: the family wealth, right, and then they know that you
Speaker 3: cannot put money in the bank because you're not getting
Speaker 3: any interest in return. So what they do is that
Speaker 3: they invest their money in other countries, and they were
Speaker 3: actually quite adventurous. They will buy Mexican passle, Turkish lira, Indonesia, rupia.
Speaker 3: These are all the emergent market currencies that they can
Speaker 3: earn a higher interest rate from.
Speaker 1: But it wasn't just the missus wattonabbies who saw opportunity
Speaker 1: with the weekend. The yen carry trade, in its various permutations,
Speaker 1: is now carried out by hedge funds, investment firms, and
Speaker 1: traders all over the world.
Speaker 2: And these trades have only gotten bigger and more popular
Speaker 2: in the past few years as the Japanese yen has
Speaker 2: weakened against other currencies. You could get more yen for
Speaker 2: your dollar, your euro, pound, sterling, or.
Speaker 1: More soup dumplings. That's right, And just like the soup dumplings,
Speaker 1: people were saying that the yen were undervalued a great
Speaker 1: deal for investors, so they began to borrow even more
Speaker 1: yin and use that money to fund all kinds of trades.
Speaker 1: According to Shuley, Now some economists say that carry trade
Speaker 1: is a strategy that really shouldn't work. What do they
Speaker 1: mean by that?
Speaker 3: Economists like to look at things in the long term,
Speaker 3: and that basically they will say the value of a
Speaker 3: currency should reflect it's a purchasing power at home and
Speaker 3: the interest rate that it earns. So in the purchasing
Speaker 3: power parody situation, it doesn't matter whether you hold the
Speaker 3: Japanese yen or the US dollar, you will be able
Speaker 3: to get the same amount of goods.
Speaker 2: But as we've demonstrated clearly, there isn't parody, and that's
Speaker 2: why you can get more soup dumplings in Tokyo compared
Speaker 2: to New York. And it's also why the Japanese yen
Speaker 2: has been a popular currency for carry trades. But it's
Speaker 2: far from the only currency that can be used to
Speaker 2: make a carry trade.
Speaker 3: It can be anything. Any currencies that have lower interest
Speaker 3: rates can be used as a funding currency. For instance,
Speaker 3: like I say, perhaps a decade ago, the US dollar
Speaker 3: was not yielding any interest rates right, and there was
Speaker 3: a very popular funding currency for traders to buy into
Speaker 3: emergent market currencies such as the Indonesian rubia, the Turkish lera,
Speaker 3: and the Mexican petzil.
Speaker 1: And it's really hard to know how much money is
Speaker 1: parked in carry trades because they're conducted via currency transactions
Speaker 1: that aren't easy to track. Not to mention there's no
Speaker 1: one central authority keeping tabs.
Speaker 2: This lack of transparency was one contributing factor to the
Speaker 2: market turmoil this summer, because no one knew just how
Speaker 2: much money was in yen carry trades and how many
Speaker 2: positions would need to be unwound.
Speaker 1: And if we know one thing about markets, David, it's
Speaker 1: that they hate uncertainty. After the break, we'll look at
Speaker 1: whether this summer's meltdown has stopped the rising popularity of
Speaker 1: carry trades or if they'll carry on nice sorry coundry resist.
Speaker 1: So to recap, one of the most popular carry trades
Speaker 1: of the past few years was the yen carry trade,
Speaker 1: when investors all over the world were making a ton
Speaker 1: of money barring Japanese yen at an interest rate of
Speaker 1: almost zero and then lending it out for profit or
Speaker 1: investing it.
Speaker 2: Basically, as long as Japan kept its interest rate near zero,
Speaker 2: and again this is the key point. As long as
Speaker 2: the en was undervalued, these en carry trades were reliable,
Speaker 2: little profit machines.
Speaker 1: What possibly could go wrong?
Speaker 4: Coming into the meeting, we actually had economists surveyed by
Speaker 4: Bloomber thinking that the consensus would be no change in
Speaker 4: the interest rate policy. But then this morning we woke
Speaker 4: up to news that they were discussing a rate high.
Speaker 3: Surprise, surprise, the Bank of Japan raised the interest rate
Speaker 3: by twenty five basis points and that called a lot
Speaker 3: of people by surprise.
Speaker 1: Oh my goodness, it's a awful time.
Speaker 4: I think to be at the Bank of Japan right now,
Speaker 4: because they are in the between a rock and a
Speaker 4: hard place.
Speaker 2: I mean they have been now.
Speaker 1: To be clear, an interest rate of zero point two
Speaker 1: five percent is very low compared to most countries. But
Speaker 1: that's not the only thing that happened. The yen strengthened
Speaker 1: against a basket of currencies at nearly its fastest pace
Speaker 1: in two decades. So a combination of the Fed cutting rates,
Speaker 1: with the Bank of Japan raising rates, and a strengthening.
Speaker 3: Yen led to panic selling, and the brokers started to
Speaker 3: give our margin cause and a lot of the hatch
Speaker 3: fans had no choice but to unwind their trades.
Speaker 2: Hedge from sold stocks in Japan at the fastest pace
Speaker 2: in more than five years. It is looking ugly out there.
Speaker 2: Age inequities have been selling off aggressively.
Speaker 3: This carry trade, which seemed like the easy trade, is
Speaker 3: no longer, so you start exiting fast and it starts
Speaker 3: to be self fulfilling.
Speaker 2: On wines and on wines and on wines.
Speaker 1: Billions of dollars worth of carry trades went up in smoke.
Speaker 1: So here's what happened, David. Remember that thousand dollars loan
Speaker 1: I took out from you.
Speaker 2: Yes, I'm running the Japanese bank. I lent you one
Speaker 2: thousand dollars worth of yen at basically no interest rate.
Speaker 1: Right, and then I turned around and loaned that one
Speaker 1: thousand dollars out in the US at an interest rate
Speaker 1: of five and a half percent.
Speaker 2: I remember, now you made sixty bucks. I think that's right.
Speaker 1: But now when I borrow money from you, I won't
Speaker 1: pay an interest rate of zero. I'll have to pay
Speaker 1: you zero point two five percent on that loan.
Speaker 2: Well, point twenty five percent is still a lot lower
Speaker 2: than five and a half percent, So you would make
Speaker 2: less money. But it does seem like you'd still make money. Right.
Speaker 1: Well, you would be right about that, except that something
Speaker 1: else happened. When Japan raised interest rates. The value of
Speaker 1: the yen went up by a lot.
Speaker 2: So when you convert your US dollars back to yen
Speaker 2: to pay me back for that loan I gave you,
Speaker 2: your US dollars aren't worth as much. A thousand US
Speaker 2: dollars doesn't buy as much yen as it used.
Speaker 1: To, exactly, so when I paid back that one thousand
Speaker 1: dollars loan, I might have to pay more like eleven
Speaker 1: hundred dollars now, So.
Speaker 2: Between a higher interest rate from me and your dollars
Speaker 2: buying fewer yen, that's sixty bucks you made in profit
Speaker 2: on your carry trade is basically gone vanished.
Speaker 1: If I'm lucky, I might actually now have lost money
Speaker 1: on this carry trade. Shuley Wren said, it's like that
Speaker 1: famous Warren Buffett quote about what happens to people who
Speaker 1: haven't prepared for market change.
Speaker 3: So basically, it's like a tide coming to the beach
Speaker 3: and then stop, and then that tie suddenly receded, and
Speaker 3: then we got to see who was swimming naked. Basically,
Speaker 3: we actually see that the yen's movement was highly colerated
Speaker 3: with the movement of NESTAC, so Japan's currency is affecting
Speaker 3: US stall market.
Speaker 2: For a long time, carry trades were mostly done via
Speaker 2: bonds and other currencies like the yen peso carry trade,
Speaker 2: But over the past few years, traders have been borrowing
Speaker 2: yen to buy American tech companies, juicing their returns, which
Speaker 2: was why the decision to unwind those trades sparked a
Speaker 2: selloff on the Nasdaq a few weeks ago.
Speaker 1: Now there must have been a lot of upset investors
Speaker 1: when the Bank of Japan raised rates and the markets crashed.
Speaker 1: Was there a lot of criticism of what the Bank
Speaker 1: of Japan was doing.
Speaker 3: Yes, there was a lot of criticism saying that the
Speaker 3: Bank of Japan was bearing it it's head in the sand,
Speaker 3: that it was raising interest rates too early.
Speaker 1: But I have to.
Speaker 3: Say that you know, this one sided bet on the
Speaker 3: yen has been going on so long.
Speaker 1: So it sounds like you think it was bound to
Speaker 1: happen this correction.
Speaker 3: Yes, it was already getting too big.
Speaker 2: So now that the correction has happened, where does all
Speaker 2: of this leave the yen? Carry trade?
Speaker 3: The carria trade will only get very popular if people
Speaker 3: can see it's a one way back and that that's
Speaker 3: probably not what the Bank of Japan wants the yen
Speaker 3: to behave, right, And then that's a problem that the
Speaker 3: other central banks have seen as well, because if the
Speaker 3: carry trade is too popular and the central bank suddenly
Speaker 3: changes its interest rate regime, we will see this kind
Speaker 3: of violent wine that we saw in August.
Speaker 1: So there you go, David.
Speaker 2: The carry trade, the carry trade, the en carry trade
Speaker 2: in particular, was going strong on the idea that interest
Speaker 2: rates in Japan would remain relatively low even as central
Speaker 2: banks in the US and the UK cut rates, and
Speaker 2: that would continue to make the en week relative to
Speaker 2: other currencies, so borrowing money would essentially be much cheaper there.
Speaker 1: In other words, people would be able to pay for
Speaker 1: five dumplings and get eight.
Speaker 2: Speaking of dumplings, Wind, any chance you could FedEx me
Speaker 2: some of those dumplings. It doesn't look like I'll get
Speaker 2: a reservation here in New York at any times.
Speaker 1: Sued that will cost you a little more than ten dollars. David, Okay,
Speaker 1: I'm going to go dig into one of these Shollong
Speaker 1: bows before they get cold my permission.
Speaker 2: I'm so jealous right now.
Speaker 1: This is the Big take Asia from Bloomberg News.
Speaker 2: I'm wanh and I'm David Gerre. For more on the
Speaker 2: Carrie trade blow up, you can listen to our sister podcast,
Speaker 2: Odd Lots. Tracy Alloway and Joe Wisenthal recently spoke with
Speaker 2: Jon Song Shin of the Bank of International Settlements. That's
Speaker 2: the bank of Banks that's been trying to track down
Speaker 2: just how big the Yen Carrie trade is. You can
Speaker 2: find that wherever you get your Podcasts.
Speaker 1: This episode was produced by Young Young Name me Um,
Speaker 1: Jessica Beck and Alex Huguiera, who also mixed it.
Speaker 2: And Kim Gidtleson, who also edited this episode, along with
Speaker 2: Stacy Vanick Smith, Nicholas Reynolds, and Caitlin Kenney. It was
Speaker 2: fact checked by Eddie Dwan.
Speaker 1: Our senior editor is Elizabeth Ponso, Nicole Beemster Bower is
Speaker 1: our executive producer, and Sage Bouman is Bloomberg's head of podcasts.
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