So much of the market turmoil this week has been attributed to the US Dollar (USD) Japanese Yen (JPY) 'carry trade'.
🔍 What is a carry trade? A carry trade involves borrowing in a low-interest currency to invest in higher-yielding assets. The USDJPY carry trade specifically refers to borrowing in Japanese yen (with its ultra-low interest rates) to invest in U.S. dollar assets.
Why it matters? As U.S. interest rates rose, this strategy became increasingly popular. However, as the interest rate differential narrows, these trades are being unwound. This unwinding is contributing to increased market turbulence which we have seen this week.
Impact on volatility? The scale is significant - estimated at around US$500 billion Unwinding of these positions can lead to rapid currency movements
These currency swings can spill over into other asset classes, including equities.
UBS noted this week that historically & empirically speaking, a coming US Dollar depreciation should provide a tailwind to Australian stocks.
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