Do It Yourself/Carry Trade

This article tells how small Japanese investors are speculating in the carry trade. I assume that these people are not taking advantage of great expertise. Usually when people like this jump into a market, it is a signal of trouble ahead.

Hayashi, Yuka. 2007. Small Investors, Acting ‘Like an Enormous Hedge Fund,’ Help Push the Yen Around.” Wall Street Journal (9 March): p. C 1.

“There is an aggressive new type of trader pushing around the yen on global currency markets: Japanese individuals. Traditionally, currency speculation was the domain of big-money professional investors or global corporations engaged in export and import businesses, as well as hedge funds, which are investment pools catering to the rich. Among them the strategy of borrowing in yen to invest in another country is widely practiced and has become known as the carry trade. It can be a lucrative way to cash in on Japan’s super-low interest rates.”

“Tens of thousands of other investors like her are doing the same thing. With Japanese interest rates hovering at a low 0.5%, they borrow big piles of yen cheaply and then invest it in currencies elsewhere, looking for higher returns. Ms. Kashiwazaki makes trades totaling $200,000 or so a day among several currencies, ranging from the U.S. dollar to the Swiss franc.”

“As the yen gyrated over the past week, traders such as these are believed to have played a major role in the volatility. Last week, the yen gained 3.5% against the dollar. “Japanese individuals are doing essentially the same thing as hedge funds,” says Tohru Sasaki, chief foreign-exchange strategist at J.P. Morgan Chase Bank in Tokyo. “Together they are acting like an enormous hedge fund”.”

“A combination of technology, deregulation and low interest rates is enabling individual Japanese to use the same kind of investment techniques as the pros. Borrowing money to trade currencies has become so popular in Japan that individual traders — sitting at their computers in homes across the country — now trade tens of billions of dollars a day, according to some estimates.”

“J.P. Morgan strategist Mr. Sasaki estimates that in the months leading up to last week’s sharp movements, Japanese individuals some days held foreign currency valued at more than five trillion yen, or $43 billion. That is similar to his estimate for the amount of yen loans taken out by professional investors in order to speculate in foreign currencies.”

“The activity is driven by Japanese investors desperate to earn better returns on their savings amid historically low interest rates. The Japanese central bank’s short-term interest rate was zero for five years until last July, and at 0.5% now it compares with 5.25% in the U.S. The result: Japanese investors can earn significantly higher returns on a dollar-denominated bank deposit than on its yen equivalent.”

“It isn’t entirely new for Japanese households to keep some of their savings in foreign currency to take advantage of discrepancies like these. What has changed is that people have increasingly engaged in what is known as margin trading — trading borrowed money — in an effort to boost their returns. Because Japanese interest rates are so low, they can borrow money against a deposit to trade, say, 20 times as much.”

“In 2005, financial-industry deregulation made currency trading with borrowed money accessible to ordinary investors. Instead of banks, which charge high fees, traders increasingly use low-cost online-trading services. More than 100 such companies were set up after the deregulation in 2005. Tokyo-based Money Partners Co., an online-trading company, has gathered more than 22,000 customer accounts since it was founded in 2005.”

“Osamu Takashima, chief currency analyst at the Bank of Tokyo-Mitsubishi UFJ, estimates foreign-currency holdings by Japanese individuals engaged in margin trading are between five trillion and 10 trillion yen. The total amount of deposits kept in individuals’ margin-trading accounts has more than doubled in the past two years.”

1 comment so far

  1. Kevin on

    Interesting point here, I agree this could be a signal of trouble ahead as with the sub-prime mortgage market.

    Carry trade will contribute to a sharp decline in the markets if economic conditions continue to worsen with a weakening dollar and margin calls go out on these speculative investments.

    We are seeing something similar happening to the housing market from defaults on the sub-prime mortgage loans.


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