Currencies | Nov 19 2009
By Chris Shaw
The carry trade is the term given to the investment strategy of borrowing a foreign currency to invest in higher yielding securities, a move particularly popular with Japanese investors given the consistently low interest rates on offer for their savings.
The most common way the carry trade is put on is via the purchase of foreign bonds, with Uridashi bonds being offered directly to Japanese households via various issuers including Australia and New Zealand.
Commonwealth Bank economist Sara Hoenig notes Australia’s Uridashi bonds are very popular at present, reflecting the fact Australian interest rates are among the highest on offer in the world and the Reserve Bank of Australia (RBA) is ahead of the world in terms of returning to a cycle of rising official interest rates.
This means the interest rate spread between Australia and Japan is widening, so increasing the attraction of Aussie bonds for Japanese investors. Add in the fact the Japanese economy has posted two successive quarters of growth, a trend that usually sees investors in that country gain confidence and so look more to overseas markets for investment alternatives, sees Hoenig suggest demand for Australian Uridashi bonds should remain solid for some time to come.
This should see solid activity levels in upcoming bond settlement periods, with November 19th being settlement day for around $300 million of such bonds and other issues settling in the coming weeks. Hoenig suggests this could add some support to the Australian dollar as in the days leading into settlement there is buying of Australian dollars, though this is unlikely to be the only driver of movements in the Aussie dollar/yen currency pair.
On the same basis, post settlement there could be some weakness in the Australian dollar relative to the yen if investors in bond series that have just matured decide to repatriate their money, though if it is re-invested in new bonds this potential impact will be more muted.
In coming months Hoenig notes there are likely to be negative net issuances of such bonds as in the first four months of 2010 three of the months have maturities of more than $1.5 billion each. While this could weigh on the currency, Hoenig expects the more important fundamentals such as relative economic performance and differences in interest rates will be of more influence.
It is a similar story in New Zealand dollar denominated Uridashi issues, with negative net issuance expected in the first few months of 2010 that could put some pressure on the NZ dollar against the yen. Hoenig also points out the relative level of issuances and maturities will play a part in Aussie dollar/New Zealand dollar movements in coming months.
Between now and the end of the year there should be as much as $1.5 billion in excess Australian dollar Uridashi maturities compared to New Zealand dollar maturities, which could pressure the Aussie currency if the bulk of maturities are converted into the local currency of investors.
In 2010 the story is the opposite however, Hoenig noting New Zealand dollar maturities should be higher over the first six months of next year by around $800 million, which should help counter some downward expectations for the Aussie dollar relative to the Kiwi currency based on the likelihood of the Reserve Bank of New Zealand (RBNZ) beginning to lift interest rates sometime next year.
As well, the Australian dollar is already seen as likely to decline against the Kiwi dollar in 2010 as upward revisions in global growth, which remain a possibility, tend to have a larger positive influence on the New Zealand currency than on the Australian dollar.
