A carry trade isn’t necessarily something you as an individual trader would conduct, rather it’s a strategy employed by large banks and hedge funds to manipulate the market and make vast amounts of profits. If you know what a carry trade is and how to spot one happening in real-time, you can avoid taking destined-to-lose positions against the larger players out there, and instead ‘go with the flow’ and profit greatly from the market manipulations that large funds are capable of.
This page will teach you what a carry trade is, how it’s executed in the market, and how you can position yourself on the right side of one to profit off those who don’t know what’s really going on. The following graph illustrates what a carry trade looks like on a commonly traded symbol you might be familiar with:
A carry trade is a strategy in which a fund borrows money at a low interest rate in order to invest in an asset that is likely to provide a higher return (for example stocks). This strategy is very common in the foreign exchange market. For example, in the period up to 2012 many large funds borrowed in Mexican Pesos, taking advantage of very low interest rates in Mexico, and used the money to take long positions in currencies backed by high interest rates, such as the USD, as well as individual stocks. During this time the stock market would rise vastly as large hedge funds were initiating a carry trade, called “putting on risk.” They were mass buying shares causing prices to swell greatly and the markets to rally. At it’s peak, once profits were adequately made, large funds had to sell their aquired stock assets and return the borrowed money they initially started the trade with. This is called “taking off risk.” This strong selling pressure caused the overall index to trend downwards as large funds unloaded shares they were holding.
Two common currency pairs used for carry trades are the AUDJPY and USDMEX. Sometimes the Swiss Frank is used as well. When you see a carry trade happening in the Forex markets it’s best to go with the flow, not against it. Are large funds putting on risk? Buy everything. Are they taking off risk? Sell everything.
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