Forex carry trade is one of the most important trading strategies in the business. Although it’s quite simple, it’s also very popular among traders, especially the ones who are more serious and who take many trading factors into consideration. Read our forex carry trade analysis and learn this important strategy!
Forex Carry Trade | Definition
So, forex carry trade is a trading strategy. The main gist of it is that traders want to sell a currency that has a low interest rate. After that, they invest the money they get from the sale in a different currency that should provide a bigger return. The point is simple: you have to capture the difference between these two rates, which depends on the amount of leverage. It is because of leverage that many professional traders use this kind of approach – get it right and the rewards could be really big.
A very important term that has to be mentioned in this Forex Carry Trade article is the so called ‘funding currency’. It’s the currency that you exchange in a currency trade (the one with a low interest rate). Historically speaking, the Japanese yen has been an extremely popular funding currency. For example, the regular thing to do would be to borrow Japanese yen and purchase, for example, the Swiss franc which has a higher interest rate.
So, let’s repeat: first, you have to find a high interest differential. Once you’ve found it, you should find a pair that’s either stable or in an uptrend in favor of the currency that’s higher-yielding. Try to stay in the trade as long as you can and take advantage of rate differential. Keep reading, we’ll clarify things more in the following paragraph.
Forex Carry Trade | When Does it Work
So, when to use forex carry trades? Well, they work best when the market (its investors) is feeling risky. In other words, investors have to be optimistic enough to buy high-yielding currencies and sell the ones that are low-yielding. It’s a type of situation that may not be perfect, but the general market feeling is that things are going to be just fine. For that type of prediction you should get very familiar with other strategic models, such as forex new trading or Forex Sentiment Analysis. For example, if some country’s economy is growing, then there are good chances that its central bank will raise its interest rates (for inflation control). On the other hand, if an economy isn’t very stable, the central bank will probably lower interest rates. In these circumstances of high risk aversion forex carry trade is certainly not recommended.
Forex Carry Trade | Conclusion
In conclusion, we can only say that you should definitely try to apply forex carry trade when possible because the opportunities will certainly present themselves and the rewards could be big. It’s not complicated in a technical way, but you still have to know a lot about general economic movements and particular economies. Even though it can be risky, there are certain situations where this strategy works perfectly – you just need a bit of optimism on the market.