Interest-rate cuts and weak growth forecasts pose risk to carry trades
Friday, April 25, 2003
markets.scmp.com
REUTERS in Singapore
A rate cut in New Zealand, forecasts of weaker growth in Canada and the fears the deadly Sars epidemic will hit commodity prices are forcing currency markets to reassess the popularity of "carry trades".
Carry trades, which involve buying high-yielding currencies after borrowing funds in low-yielding currencies, have been one-way bets this year as the hunt for yield became a dominant theme in the search for returns.
Rather than the US dollar, the popular currencies to fund the carry trades were the low-yielding Japanese yen, the Swiss franc or Singapore dollar.
But, now the risks to these trades are rising.
Analysts feel some of the commodity currencies, such as the Australian dollar and Canadian dollar, have been driven to highs that make them overbought and overvalued.
Rate cuts - such as the Reserve Bank of New Zealand's surprise 25 point cut - are another risk for the high-yielders. The cut had not been expected until June.
"This cut will cause a pause in the cycle, but at absolute levels it is still favourable in this risk-averse climate," said Claudio Piron, currency strategist at Standard Chartered Bank.
"In the near term we could be in for a little bit of a pull-back, but it would be an opportunity to re-enter trades rather than reverse positions."
Short-term rates in Japan and Switzerland are almost zero while Singapore offers 0.5 to 0.75 per cent on one-year deposits. In the United States, three-month funding costs 1.3 per cent.
Putting the borrowed money in Australia for three months could fetch 4.5 to 4.75 per cent. In New Zealand it could return 5.3 to 5.4 per cent, or 3.25 to 3.4 per cent in Canada. Returns have also been boosted by the rapid appreciation of these currencies.
A three-month South African deposit would earn over 13 per cent. The rand has risen 15 per cent so far this year.
Still, markets are on alert for signs that the post-Iraq war rally in stock markets becomes a more lasting bull run, which could pull money away from the carry trades into equities.
They are also closing watching the commodity indicators, such as the Commodity Research Bureau index, which had been rising since bottoming last month but turned lower on Wednesday.
One big risk was that growth in China, the world's most populous nation, was derailed by the Sars outbreak and that causes commodity prices to fall, analysts said.
"There's probably going to be some degree of correction in the Aussie and even the kiwi has to adjust a bit," Naomi Fink, currency strategist with UBS Warburg, said.
Ms Fink said the Canadian dollar remained the best bet for a carry trade, by virtue of its better fundamentals and position as an energy exporter. However, if it rose to near C$1.43 per US dollar, it could raise concerns about export competitiveness.
And, because Canadian equities bore a high correlation to the United States, the currency would benefit from a rally in US equities, she said.
With inflation rates above a central bank target and signs that the economy may slow down, Australian markets do not see an immediate change in interest rates in either direction. |
