While carry-trade demand is increasing as investors seek riskier assets, rising Treasury yields and speculation the Federal Reserve will rate interest rates sooner rather than later will damp the greenback’s use, New York-based Leven said in an interview yesterday. Low U.S. borrowing costs had encouraged investors to use the dollar instead of the yen.
“It seems anecdotally there’s some shifting away from the dollar,” Leven said. “Now that we’re starting to see the curve in the U.S. steepen and the market is thinking in terms of Fed tightening, the dollar seems to be losing its allure as a funding currency.”
Futures on the CME Group Inc. exchange showed a 44 percent chance Fed policy makers will increase the overnight target rate by at least a quarter-percentage point by the September meeting, compared with 32 percent odds a month ago. The yield curve, which plots the rate of Treasuries according to their maturity, has steepened as the gap between 2- and 10-year yields widened beyond levels last seen during the recovery after the 2001 recession.
In the carry trade, investors put the borrowed money into assets in countries with higher interest rates, such as Australia, where the benchmark is 4 percent, and South Africa, where it is 6.5 percent. Rates are 0.1 percent in Japan and zero to 0.25 percent in the U.S. The risk is that market moves can erase profits.
“The Aussie’s really by measures I think the best carry trade, even across emerging markets -- not the highest on an absolute basis, but by history and volatility,” Leven said.
Rising equity prices should renew interest in carry trade, which is still thin by historical standards, he said.
