Leveraged Carry Trading Strategy

Leveraged Carry Trading Strategy

By:


Carry trading is a strategy that many investors use to profit from the interest rate differential between two currencies. Suppose, Japanese Yen (JPY) deposits give only 0.35% interest while the New Zealand Dollar (NZD) deposits give a much higher interest of 4.35%. By selling JPY and buying NZD, investors can profit from the interest rate differential of 4% between the two currencies.

Carry trade is one of the fundamental trading strategies that uses one of the basic economic principles that money constantly keeps on flowing from a low interest market to a high interest market. Markets that offer the highest interest rate attract the most capital. Countries are no different. Countries offering a better interest rate attract more capital as compared to countries offering low interest rate.

Investing in high yield assets is what every investor wants. When a Japanese saver finds that she can get a much higher return of 4.35% on the NZD deposit as compared to getting only 0.35% on her JPY deposit, she will sell JPY and buy NZD.

Of course, she will not be the only person doing this. There will be millions of depositors who would want to profit from the high interest rate offered on NZD. When millions of depositors sell JPY and buy NZD, JPY will depreciate and NZD will appreciate. This exchange rate appreciation also will add to the profits of the carry traders. This is the scenario when the risk aversion amongst the investors are low and they are willing to risk investing on a high interest rate currency. But when risk aversion amongst the investors increases due to some financial crisis and they tend to seek refuge in safe haven currencies, carry trading strategy fails as capital starts to flow from high interest rate currencies to low interest rate currencies.

This was the market dynamics that makes carry trading a profitable strategy when there is low risk aversion amongst the investors. If you use leverage, you can substantially increase your profits. For example using a leverage of 5:1, can increase the interest rate different to 20%.

But, you need to remember that using leverage is a risky business and it is a double edged sword that cuts both ways. When things work well, your profits multiplies by using leverage. But when things don't work well and market takes a turn, your losses also multiply. So before, using leverage you should think twice!


About the Author:
Mr. Ahmad Hassam had done Masters from Harvard University. Watch these shocking Forex Trader PRO Videos FREE. Learn a powerful
Fibonacci Retracement
Method FREE that pulls 500+ pips per trade.



Article Originally Published On: http://www.articlesnatch.com


|

Loading...
Related....
Videos...

Recent Finance Articles

Comments

Still can't find what you are looking for? Search for it!

Loading

Copyright 2005-2011 ArticleSnatch, LLC - All Rights Reserved.
Privacy Policy | Terms of Service.