The carry trade has been “one of the principal methods in which debtor nations have been able to recycle their deficits over the past 40 years”, says Neil Record of Record Currency Management, a specialist adviser. “Surplus countries have historically offered their citizens lower short-term interest rates than deficit countries, and this has encouraged these citizens to seek higher returns – and therefore investment risk – elsewhere.”
... central banks loosened monetary policy to tackle the global financial crisis, some investors have used this cheap, short-term funding to make big bets on higher-yielding assets, ranging from Brazilian shares to American mortgage bonds...
Mr Lee thinks many of the investors he tracks have switched out of yen carry trades into the dollar in the past couple of years. He calculates that there are some $500bn-$750bn of dollar-based carry trades in the global financial system, plus $250bn-odd funded in other currencies.
Others have even bigger estimates. “To me the big risk this year is the dollar carry trade,” Zhu Min, deputy governor of the People’s Bank of China, said recently, adding that there was now a real risk of a violent unwinding. “It is a massive issue. Estimates are that the dollar carry trade is $1,500bn – which is much bigger than Japan’s carry trade was.”
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