1 00:00:02,440 --> 00:00:10,240 Speaker 1: Bloomberg Audio Studios, Podcasts, radio News. I'm Stephen Carol and 2 00:00:10,400 --> 00:00:12,880 Speaker 1: this is Here's Why, where we take one news story 3 00:00:12,920 --> 00:00:14,880 Speaker 1: and explain it in just a few minutes with our 4 00:00:14,920 --> 00:00:23,040 Speaker 1: experts here at Bloomberg. It's been a popular trading strategy 5 00:00:23,160 --> 00:00:26,759 Speaker 1: for many years, borrowing in one currency to invest in another, 6 00:00:26,960 --> 00:00:28,600 Speaker 1: at least until recently. 7 00:00:28,840 --> 00:00:33,680 Speaker 2: And the yen rally intensifies as carry trades onwind jgbs 8 00:00:33,840 --> 00:00:37,320 Speaker 2: for the most since nineteen ninety nine, as the topics 9 00:00:37,600 --> 00:00:41,720 Speaker 2: enters eight per market territory. This is the worst day 10 00:00:41,800 --> 00:00:45,879 Speaker 2: since nineteen eighty seven for Japanese equities. What is happening 11 00:00:45,960 --> 00:00:47,240 Speaker 2: and driving. 12 00:00:46,760 --> 00:00:49,720 Speaker 3: These extreme moves in the market that are winding of 13 00:00:49,800 --> 00:00:50,640 Speaker 3: the carry tree. 14 00:00:50,680 --> 00:00:51,159 Speaker 2: I'll tell you. 15 00:00:51,200 --> 00:00:53,600 Speaker 1: We talk about China exporting deflation to the rest of 16 00:00:53,600 --> 00:00:56,600 Speaker 1: the world, tom in this case, Japan is exporting inflation 17 00:00:56,640 --> 00:00:57,280 Speaker 1: to the rest of the world. 18 00:00:57,480 --> 00:01:00,680 Speaker 3: Japan story. The carry trade is actually causing a little 19 00:01:00,720 --> 00:01:02,639 Speaker 3: bit of chaos in the markets, and I think that 20 00:01:03,000 --> 00:01:05,280 Speaker 3: you know, there really has been an immediate reaction to that. 21 00:01:05,680 --> 00:01:07,759 Speaker 1: The carry trade was a key part of the market 22 00:01:07,760 --> 00:01:10,720 Speaker 1: turmoil we saw in early August, which included big moves 23 00:01:10,720 --> 00:01:14,319 Speaker 1: on currency, equity and bond markets over a number of days. 24 00:01:14,840 --> 00:01:17,400 Speaker 1: Since then, lots of questions are being asked about the 25 00:01:17,440 --> 00:01:21,160 Speaker 1: future of the strategy. So here's why the carry trade 26 00:01:21,400 --> 00:01:27,400 Speaker 1: will carry on. Our managing editor for Foreign Exchange in Rates, 27 00:01:27,480 --> 00:01:30,600 Speaker 1: Rachel Evans, is with us for more. Rachel, first of all, 28 00:01:30,680 --> 00:01:33,920 Speaker 1: can you explain what exactly the carry trade is? 29 00:01:34,640 --> 00:01:36,360 Speaker 3: Yeah, it's one of these terms that we tend to 30 00:01:36,400 --> 00:01:39,560 Speaker 3: throw about willy nilly without really defining it particularly well. 31 00:01:39,560 --> 00:01:42,960 Speaker 3: But basically it's pretty simple. It's just borrowing something at 32 00:01:43,000 --> 00:01:45,480 Speaker 3: a low cost or low rate in one country to 33 00:01:45,560 --> 00:01:48,560 Speaker 3: invest in something with a higher yield somewhere else. So 34 00:01:48,640 --> 00:01:51,520 Speaker 3: for example, in this case, we've been talking a lot 35 00:01:51,560 --> 00:01:54,080 Speaker 3: about kind of borrowing in the yen, which obviously is 36 00:01:54,120 --> 00:01:57,280 Speaker 3: at kind of very very low levels right now, and 37 00:01:57,360 --> 00:02:00,960 Speaker 3: investing it in places like Mexico whereon so yielding a 38 00:02:01,000 --> 00:02:04,200 Speaker 3: really chunky, nice yield, or in US tech stock where 39 00:02:04,200 --> 00:02:07,000 Speaker 3: obviously we've seen stocks like in video going on a 40 00:02:07,040 --> 00:02:09,160 Speaker 3: real tear. So it's really just that kind of you know, 41 00:02:09,200 --> 00:02:11,680 Speaker 3: looking for cheap money to invest in something that's going 42 00:02:11,760 --> 00:02:13,040 Speaker 3: to pay you back in a bigger way. 43 00:02:13,360 --> 00:02:16,560 Speaker 1: So what exactly happened to this trade then? During the 44 00:02:16,639 --> 00:02:18,520 Speaker 1: market termoil. We saw at the start of August. 45 00:02:18,760 --> 00:02:21,680 Speaker 3: We've seen a few wobbles in this trade for kind 46 00:02:21,720 --> 00:02:24,800 Speaker 3: of prior weeks, US tech stocks having days where they'd 47 00:02:24,880 --> 00:02:27,400 Speaker 3: sold off, for example, and we had been sort of 48 00:02:27,440 --> 00:02:30,240 Speaker 3: talking a lot about kind of how stretch positioning had 49 00:02:30,280 --> 00:02:33,359 Speaker 3: become in the end. We're just everybody seeming to expect 50 00:02:33,400 --> 00:02:36,040 Speaker 3: the end to stay weak for a longer period of time, 51 00:02:36,320 --> 00:02:37,880 Speaker 3: and then in a very short amount of time we 52 00:02:37,919 --> 00:02:41,920 Speaker 3: had a few events that really rocked that expectation. We 53 00:02:41,960 --> 00:02:44,200 Speaker 3: saw the FED holding rates but signaling that it would 54 00:02:44,240 --> 00:02:46,679 Speaker 3: start to cut In September, we saw the Bank of 55 00:02:46,760 --> 00:02:49,560 Speaker 3: Japan raising interest rates and this was the second hike 56 00:02:49,639 --> 00:02:52,239 Speaker 3: that they'd done. And then we also saw job s 57 00:02:52,280 --> 00:02:55,239 Speaker 3: data coming and suggesting that the US economy was weaker 58 00:02:55,280 --> 00:02:58,320 Speaker 3: than previously anticipated. So all of that kind of put 59 00:02:58,360 --> 00:03:01,400 Speaker 3: together the idea that Bank of Japan wasn't just going 60 00:03:01,480 --> 00:03:04,120 Speaker 3: to keep rates really really low in definitely that they 61 00:03:04,160 --> 00:03:06,320 Speaker 3: were going to start increasing those and kind of be 62 00:03:06,360 --> 00:03:08,720 Speaker 3: on a path towards higher rates, and the fact that 63 00:03:08,720 --> 00:03:11,320 Speaker 3: that the US economy perhaps was wabbling and the FED 64 00:03:11,400 --> 00:03:14,680 Speaker 3: may maybe behind the curve. Those sort of sentiments really 65 00:03:14,720 --> 00:03:17,680 Speaker 3: kind of combined to prompt everybody to take a really 66 00:03:17,720 --> 00:03:19,600 Speaker 3: sharp look at some of the trades that they've been 67 00:03:19,720 --> 00:03:22,400 Speaker 3: considering as no brainers for the year and really start 68 00:03:22,480 --> 00:03:24,360 Speaker 3: unwinding those at breakdeck speed. 69 00:03:24,760 --> 00:03:27,520 Speaker 1: Have we seen this sort of thing happen before where 70 00:03:27,800 --> 00:03:30,400 Speaker 1: such a popular trading strategy in the carry trade has 71 00:03:30,520 --> 00:03:32,320 Speaker 1: essentially become very unpopular very quickly. 72 00:03:32,600 --> 00:03:34,920 Speaker 3: I mean, the carry trade is particularly prone to these 73 00:03:35,120 --> 00:03:38,800 Speaker 3: rapid unwinds because it does rely on stability, It relies 74 00:03:38,840 --> 00:03:41,360 Speaker 3: on a lack of volatility for it to really kind 75 00:03:41,360 --> 00:03:43,760 Speaker 3: of work and pay off. So back in nineteen ninety eight, 76 00:03:43,760 --> 00:03:46,160 Speaker 3: we saw a pretty sharp reversal. We saw the end 77 00:03:46,160 --> 00:03:48,440 Speaker 3: then rise sixteen percent in one week, which is, you know, 78 00:03:48,480 --> 00:03:51,160 Speaker 3: put things in perspective, Yeah, exactly. I think we saw 79 00:03:51,200 --> 00:03:53,840 Speaker 3: a three percent rise on Monday when things were were 80 00:03:53,880 --> 00:03:56,120 Speaker 3: at their worst here. But then we saw this in 81 00:03:56,120 --> 00:03:58,200 Speaker 3: two thousand and seven when we were dealing with the 82 00:03:58,280 --> 00:04:01,800 Speaker 3: ripple effects at the subprime crisis. So when we do 83 00:04:01,840 --> 00:04:05,320 Speaker 3: see kind of some of these exogenous events like geopolitical 84 00:04:05,360 --> 00:04:08,600 Speaker 3: turmoil come in and sort of boost currency like the yen, 85 00:04:08,680 --> 00:04:11,360 Speaker 3: which has tended to be favored by carry traders to 86 00:04:11,400 --> 00:04:14,600 Speaker 3: fund these positions, that can really disrupt this trade, and 87 00:04:14,680 --> 00:04:16,719 Speaker 3: so this is not the first time it's kind of happened. 88 00:04:17,160 --> 00:04:20,560 Speaker 1: What about the carry trade using currencies other than the yen, 89 00:04:20,760 --> 00:04:23,080 Speaker 1: have they seen the same sort of effect that we've 90 00:04:23,080 --> 00:04:24,360 Speaker 1: seen with the n trade. 91 00:04:24,640 --> 00:04:26,640 Speaker 3: Yeah? Similar. I mean, the yen has very much been 92 00:04:26,680 --> 00:04:29,080 Speaker 3: kind of the dominant currency for obvious reasons. It's very 93 00:04:29,200 --> 00:04:31,320 Speaker 3: very liquid, it's easy to get in and out, and 94 00:04:31,360 --> 00:04:33,640 Speaker 3: there has been this kind of very long narrative of 95 00:04:33,680 --> 00:04:36,200 Speaker 3: low rates in Japan. But we have also seen people 96 00:04:36,320 --> 00:04:39,400 Speaker 3: using the Chinese yuan to fund carry trades as well. 97 00:04:39,600 --> 00:04:41,200 Speaker 3: So when we were seeing kind of the height of 98 00:04:41,200 --> 00:04:44,479 Speaker 3: the gyrations last week, we did see the yuan also 99 00:04:44,560 --> 00:04:46,840 Speaker 3: strengthening alongside the yen, and that's been a bit of 100 00:04:46,880 --> 00:04:48,880 Speaker 3: a pattern. You know, when we have seen kind of 101 00:04:48,920 --> 00:04:51,400 Speaker 3: the yen having days of strength, it's tended to kind 102 00:04:51,400 --> 00:04:54,520 Speaker 3: of come alongside some Yuan strength too, with a sense 103 00:04:54,520 --> 00:04:56,800 Speaker 3: of kind of like this unwind of carriers really fueling 104 00:04:56,880 --> 00:04:57,960 Speaker 3: both both positions. 105 00:04:58,240 --> 00:05:01,239 Speaker 1: Does this mean the carry trade has has last its shine? 106 00:05:01,560 --> 00:05:03,360 Speaker 1: Is this a fundamental change? 107 00:05:03,520 --> 00:05:06,080 Speaker 3: I certainly lost its shine for now, but like everything, 108 00:05:06,080 --> 00:05:08,080 Speaker 3: you know, nothing really goes out of style for very long. 109 00:05:08,160 --> 00:05:09,719 Speaker 3: And in fact, I was just looking at some of 110 00:05:09,760 --> 00:05:13,440 Speaker 3: the gauges of carry on the Bloomberg terminal and noticed 111 00:05:13,440 --> 00:05:15,919 Speaker 3: that there's a there's a gauge of dollar funded carry 112 00:05:15,960 --> 00:05:19,120 Speaker 3: trades in emerging markets that's up two percent since last week. 113 00:05:19,200 --> 00:05:21,640 Speaker 3: So clearly, you know, if you got in at the 114 00:05:21,640 --> 00:05:24,920 Speaker 3: bottom when everybody was really sort of heading for the sidelines, 115 00:05:25,240 --> 00:05:27,440 Speaker 3: you could have actually made a pretty nice profit. So 116 00:05:27,520 --> 00:05:29,560 Speaker 3: these things sort of tender to kind of come around. 117 00:05:29,800 --> 00:05:31,440 Speaker 3: But it does feel like we're getting a bit of 118 00:05:31,560 --> 00:05:34,560 Speaker 3: a rethink of exactly how invested in this trade you 119 00:05:34,600 --> 00:05:36,919 Speaker 3: really want to be. How far do you want to 120 00:05:37,000 --> 00:05:38,760 Speaker 3: kind of sort of blow out your profit Marge and 121 00:05:38,800 --> 00:05:41,440 Speaker 3: betting on this one strategy, And do you want to 122 00:05:41,480 --> 00:05:44,320 Speaker 3: diversify perhaps a little bit beyond just using the end 123 00:05:44,320 --> 00:05:45,960 Speaker 3: to kind of fund these these carry trades? 124 00:05:46,200 --> 00:05:49,919 Speaker 1: So what sort of event could reinvigorate this trade? And 125 00:05:49,960 --> 00:05:51,640 Speaker 1: can I take a gas and it's at the central banks? 126 00:05:52,320 --> 00:05:53,839 Speaker 3: Central banks are always crucial to this. 127 00:05:54,000 --> 00:05:57,120 Speaker 1: Yes, I actually the answer to everything pretty much pretty. 128 00:05:56,960 --> 00:05:59,320 Speaker 3: Much in macroland. I think there are two things that 129 00:05:59,680 --> 00:06:02,320 Speaker 3: kind of have the potential to reinvigorate the trade. The 130 00:06:02,360 --> 00:06:05,920 Speaker 3: first would be a boring answer, stability. Everybody in this 131 00:06:06,000 --> 00:06:09,200 Speaker 3: trade needs stability, They need a sense that they know 132 00:06:09,279 --> 00:06:11,640 Speaker 3: what's going to happen and a sense of certainty. Now 133 00:06:11,640 --> 00:06:13,920 Speaker 3: the Bank of Japan is keeping rates very low for 134 00:06:14,000 --> 00:06:16,080 Speaker 3: quite a long time, it would seem like we're not 135 00:06:16,120 --> 00:06:19,120 Speaker 3: talking about huge interest rate increases. We're at zero point 136 00:06:19,160 --> 00:06:21,799 Speaker 3: two five percent now. This is this is not particularly 137 00:06:21,839 --> 00:06:24,280 Speaker 3: dramatic given where we are in the US or in 138 00:06:24,320 --> 00:06:26,599 Speaker 3: the UK in terms of where interustrates are. So once 139 00:06:26,600 --> 00:06:28,760 Speaker 3: people get a sense of kind of certainty that they're 140 00:06:28,760 --> 00:06:30,919 Speaker 3: not going to suddenly, you know, high rates to one percent, 141 00:06:30,960 --> 00:06:33,120 Speaker 3: two percent or higher, then I think you could see 142 00:06:33,120 --> 00:06:35,960 Speaker 3: some sort of re establishment of these bets. Given that 143 00:06:36,000 --> 00:06:39,520 Speaker 3: the thesis of borrowing low and investing in higher yielding 144 00:06:39,640 --> 00:06:42,360 Speaker 3: currency still really holds. You just need to be prepared 145 00:06:42,360 --> 00:06:44,560 Speaker 3: that you're not going to get quite as much for that. 146 00:06:44,920 --> 00:06:48,040 Speaker 3: The other possible reinvigoration would be if we see something 147 00:06:48,080 --> 00:06:51,960 Speaker 3: idiosyncratic happen, where we see interest rates in one country 148 00:06:52,360 --> 00:06:55,360 Speaker 3: cut a much much lower than elsewhere. It's very hard 149 00:06:55,400 --> 00:06:57,240 Speaker 3: to predict what would cause that. It would be some 150 00:06:57,279 --> 00:07:01,640 Speaker 3: sort of local political drama, local economic drama that would 151 00:07:01,640 --> 00:07:04,400 Speaker 3: see interest rates somewhere become much much lower than the 152 00:07:04,400 --> 00:07:06,159 Speaker 3: rest of the world. But yeah, we'll have to see 153 00:07:06,240 --> 00:07:08,000 Speaker 3: exactly where and when that might happen. 154 00:07:08,600 --> 00:07:11,880 Speaker 1: Thank you, Rachel Evans, our managing editor for Foreign Exchange 155 00:07:12,120 --> 00:07:15,080 Speaker 1: and Rates. For more explanations like this one from our 156 00:07:15,120 --> 00:07:18,240 Speaker 1: team of twenty seven hundred journalists and analysts around the world, 157 00:07:18,360 --> 00:07:21,080 Speaker 1: search for quick take on the Bloomberg website or Bloomberg 158 00:07:21,160 --> 00:07:26,360 Speaker 1: Business app. I'm Stephen Carol. This is here's why. I'll 159 00:07:26,400 --> 00:07:28,600 Speaker 1: be back next week with more. Thanks for listening.