Carry trade is set to turn ugly

“It is very hard for people to resist instant gratification,” says Buttonwood in The Economist. That’s why the yen carry trade is so popular – “it offers instant rewards”. But how important is the carry trade to markets?

"It is very hard for people to resist instant gratification," says Buttonwood in The Economist. That's why the yen carry trade is so popular "it offers instant rewards". In this trade, investors borrow money in low-interest-rate Japan and place the cash in foreign assets offering higher income. By doing so, they get a steady income out of the difference between the interest rate they pay and the income they receive.

Everybody from hedge funds to banks is at this, says Nils Pratley in The Guardian; it's been "the easiest way to call yourself an investment genius in recent years". However, it's far from risk-free; a rise in the value of the yen would increase the value of a trader's yen debt relative to the assets he's bought and potentially put him in the red. One big rise could wipe out all the income gains he's made; that's why cynics describe these bets as "picking up nickels in front of steam rollers", says Buttonwood. Like maxing out your credit cards, the reward is immediate and it seems the bill can be indefinitely postponed. Payment in the form of a rally in the yen must eventually fall due, but traders are betting that they'll get out in time.

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