Navigating The Los Angeles Forex Market: Strategies For Success – Most people start Forex trading with technical analysis and end up incorporating fundamental macroeconomics into their trading strategies. However, there are different ways to trade Forex that involve making money regardless of which way the market moves, and it’s called carry trading. While any student of finance will be able to see right away what is meant by a carry trade, let’s explain the concept briefly so that the financial traders among us get a better idea of what we are getting into. If you have ever kept your Forex position open overnight, you may have noticed that your broker may have given you a small change in the Swap column of your account statement. In general, your broker may have removed such Swap fees as well. Carry trading mainly involves exposure to currency pairs that offer good overnight interest in the hope that if you hold the position long enough, the earnings from the interest payments will turn into more money. Well, if you are brave enough to use leverage, which is done by many broker traders, holding Forex positions that pay Swap interest can be a profitable Forex trading strategy. How Trading Works If you borrow or sell a currency that offers a lower overnight interest rate and use the money to buy another currency that offers a higher interest rate, your broker will usually pay you the difference in interest. Let’s give you a practical example. Let’s say you are a German citizen and you can borrow €100,000 from a local bank like Commerzbank in Berlin at 0.5%. Considering that currently (from July 7, 2019), the European Central Bank offers an overnight rate of 0%, theoretically, it is possible to borrow at a low cost. However, let’s imagine that you are a movie producer and you currently live in Los Angeles, and you have a bank account in the US Since, the overnight interest rate offered by the Federal Reserve Bank is 2.5%, your bank in California, such as Wells Fargo, would be happy to pay you much higher than Commerzbank in Berlin. So, let’s assume that Wells Fargo pays you 2.5%. Think about it, you can simply convert your €100,000 Euro into $112,258.16 USD (at the market rate of 1 EUR = 1.12258 USD on July 7, 2019) and deposit the entire amount into your Wells Fargo account. If you do, you will end up with an annual interest rate of 2.0%, which would amount to $225,000. Now, if you use 100:1 compounding, that $2245.16 can become $224,516.32 at the end of the year. Risks Involved in Carry Trade When you first think about it, Carry Trade may seem like a no-brainer. However, there are some inherent risks of commercial shipping. After all, the price of EUR/USD can rise and at the end of the year when you will have to change your US Dollars back to Euros to restore your bank in Berlin, the difference in the rate can wipe out all your profits. Plus, you can easily get a margin call long before the end of the year! That is why large companies involved in international trade want to hedge their future trade to protect themselves from large fluctuations in currency rates. While you can Carry Trades and make good money from the difference in interest, keep in mind that if the price of two currencies goes against you, you can also end up making a loss. How You Can Carry Trade in 2019 Before you get into carry trade, let’s review the current interest rates offered by major central banks around the world. Country Currency Interest Rate United States U.S. Dollar 2.50% United Kingdom British Pound 0.75% Eurozone Euro 0.00% Australian Dollar 1.00% Japan Yen -0.10% Canada Canadian Dollar 1.75% Mexico Mexican Peso 8.25% Turkey Lira 25.00% Table Rates Offered by Central Banks of Major Economies as of July 2019 From Table 1 , you can see that the prospect of making a profit from the Carry Trade is still a good idea as some currencies such as the Mexican Peso offer 8.25% overnight interest. Figure 1: MXN/EUR Has Remained Strong Since 2018 and Offers a Great Overnight Interest Rate Since the European Central Bank (ECB) has kept its overnight interest rate at 0.00% for a long time, buying MXN/EUR would yield a nice 8.25%. overnight interest. Another good example of a good pair to carry a trade with would be the USD/JPY. Figure 2: The Stable Price of USDJPY Offers a Great Trading Opportunity Last year, the price of USDJPY fluctuated between support near 104.65 and resistance around 114.35, representing only 9.27% volatility. Considering that the Bank of Japan (BoJ) is offering a -0.10% overnight interest rate compared to 2.50% by the US Federal Reserve, going long on the USD/JPY pair would provide a great opportunity to sell carry at this time. Figure 3: Value of the U.S. Dollar Rises 108.90% Against Turkish Lira in 2017-2018 However, No One Wants to Carry Trade U.S. Dollar vs. Turkish Lira (USD/TRY) despite the 22.5% interest rate difference between the two currencies. During 2017-2018, the value of USD/TRY jumped from 3.3925 to 7.0870, representing an increase of 108.90%. So, if you borrow money at 2.5% from the US and invest in Lira, you would lose a lot of money even if the Lira rose above the overnight interest rate. As you can see, there is more to carry trades than just calculating interest rates as geopolitics, macroeconomics, and other factors can often dictate the long-term results of carry trades. The Bottom Line In the days before the sub-prime mortgage crisis turned into the global Great Recession, overnight interest rates around the world used to be extremely high. The overnight rate of the Bank of England was above 6.0% and even Japanese housewives were making a killing with the Carry Trade. However, we live in a low inflation and low-interest rate environment now and as a result, the appeal of the Carry Trade is gone. Nevertheless, the concept of Carry Trade remains a viable trading method if you want to use it on any currency pair that offers a high return on investment and a low risk of leading movements against your open positions.
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