The carry trade is a speculative financial practice originating from Forex. The carry trade consists of borrowing a currency with low (or even fixed) interest rates and then converting this amount into the currency of a country with higher rates of return.
This practice provided by the carry trade allows the speculator to earn on the spread generated on interest rates. The practice of carry trade was very popular in the period before the crisis, but with the economic crisis the traders who apply it are less and less.
A practical example could be to borrow yen, which has a very low interest rate, and invest the money in Australian bonds denominated in local currency, or by buying the Australian dollar in the Forex market, which generate very high interest higher.
In this way it is possible to speculate on the difference in return of the two currencies thanks to the carry trade. The earnings will depend on the trader and the currencies he has chosen to carry out this speculative practice.
However, the risks for traders who are not experts should not be underestimated, given that the carry trade requires a certain amount of experience.
One of the primary risks of the carry trade is that of loss, which comes from the appreciation of the currency you borrow within your carry trade strategy. Going back to the previous example, if the yen were to appreciate beyond the yield spread, you would incur a loss.
Furthermore, it is convenient to carry trade only when the markets are not very volatile, otherwise you easily fall into the risk of revaluation or short-term devaluation of the currencies on which the speculative strategy was implemented.
To learn more about carry trade techniques and have a complete guide on the subject, we advise you to read: How does the Carry Trade work?.
