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Carry Trading Strategy In Forex, More Profitable For Traders.

somrat4030

Well-known member
Carry Trading Strategy

What is Carry trade?​

The word Carry means the returns we obtain for holding an asset. When we ‘Carry’ commodities for a long time, we end up with negative returns as they incur storage costs. But this is not the case in the Forex market. We do not actually Carry any physical entity.

Historically, before the Lehman crisis, the USD-JPY carry trade was the most prominent trade where borrowing used to come from the Japanese market because of Bank of Japan's accommodative monetary policy of low interest rate since the 1990s, while on the flipside, the US Federal Reserve maintained elevated interest rates. The interest rate differential spread between the US and Japan prompted many traders to sell yen at low rates and buy dollars to earn the higher rates.

Inevitably, there are two risk factors involved in the forex carry trades, namely the exchange rate risk and interest rate risk. The former impacts a lot when there is a massive move in the exchange rate and this may lead to substantial loss in the base capital. The latter defines the profit yield of the carry trades positions. The wider the interest rate differential, the wider the opportunities.

How do currency carry trades work?​

Currency carry trades work by enabling market participants to profit from interest rate differentials between the different currencies in a forex pair. Because forex is always traded in pairs, traders are simultaneously selling one currency while buying another. It is this technicality in forex transactions which makes currency carry trades possible.

When dealing forex, the currency on the left of the pair is known as the base currency, and the currency on the right of the pair is the quote. The price given for a forex pair is always the price of how much of the quote currency a trader would have to spend in order to buy one unit of the base currency.

The Carry Trading Advantage​

Trading in the direction of carry interest is an advantage because there are also interest earnings in addition to your trading gains. Carry trading also allows you to use leverage to your advantage. When the broker pays you the daily interest on your carry trade, the interest paid is on the leveraged amount. For example, if you open a trade for one mini lot (10,000 USD), and you only have to use $250 of actual margin to open that trade, you will be paid daily interest on $10,000, not $250. It can add up to large yearly returns.

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Why It Is Risky
There is a fair amount of risk to the carry trading strategy. The currency pairs with the best conditions for using the carry trading method tend to be very volatile. For this reason, you must conduct carry trading with caution. Nervous markets can have a fast and heavy effect on currency pairs considered to be “carry pairs.” Without proper risk management, traders can be drained by a surprising and brutal turn.

Currency Carry Trade Example
As an example of a currency carry trade, assume that a trader notices that rates in Japan are 0.5 percent, while they are 4 percent in the United States. This means the trader expects to profit 3.5 percent, which is the difference between the two rates. The first step is to borrow yen and convert them into dollars. The second step is to invest those dollars into a security paying the U.S. rate. Assume the current exchange rate is 115 yen per dollar and the trader borrows 50 million yen. Once converted, the amount that he would have is:

U.S. dollars = 50 million yen ÷ 115 = $434,782.61

After a year invested at the 4 percent U.S. rate, the trader has:

Ending balance = $434,782.61 x 1.04 = $452,173.91

Now, the trader owes the 50 million yen principal plus 0.5 percent interest for a total of:

Amount owed = 50 million yen x 1.005 = 50.25 million yen

The phrase "carry trade unwind" is the stuff of a carry trader's nightmares. A carry trade unwind is a global capitulation out of a carry trade that causes the "funding currency" to strengthen aggressively. This happened with the Japanese yen during the financial crisis.

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Thank You

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Heartsome

Member
This works great for many traders as they get a chance to enhance their gains by adding interest gains to them. It increases manifold when you are using leverage as the interest paid by your broker is on the leveraged amount.
 

Astrogony

Active member
Yes, it is the primary step of beneficial trading. Plans and strategies help us to predict upcoming events and also enhance our decision making skill. With the help of a strategy.
 

Hippomobile

Active member
Of course, it is necessary to have a strategy for beneficial trading. It will help you to minimise capital loss and prevent emotional trading.
 

somrat4030

Well-known member
is crucial to always have a method of trading that favors you, nice write up
Yes, of course. Without plan and methods if you start trading, then you will face sure losses. So, having methods is too much important while trading.

hope you understand.

Thanks
 

Statoscope

Active member
As wonderfully explained by the OP, a carry trading strategy can be definitely profitable to a trader. However, the trader must have the knowledge of how to fundamentally analyse the market and keep track of the news daily. Using the factors of risk management, the trader must exit when he finds the market most suitable.
At the end of the day, it all boils down to a traders’ own preference of trading type.
 

louisegoodman

Well-known member
That was a very educational post. Carry trading can be a good start for beginners. Hope many new traders can benefit from this information. Thank you for your time and effort.
 

LamarKenyon

Well-known member
Wow. Well explained using simple words and basic terms. I hope many people find this helpful and actually learn from it.
Carry Trading is a quite decent and fair enough trading practice especially for beginner traders who can use this method to save themselves from being prone to risks of high volatility.
 

timothydanie

Active member
The forex carry trade makes good returns by borrowing in low-yielding currencies and investing in high-yielding currencies with higher interest rates. Carry trades are only lucrative if the higher interest on the high-yield currency is not offset by a greater depreciation of that currency.

The sole risk in carry trading is the volatility of currency rates. If the value of the base currency falls below that of the quote currency, the trader runs the risk of losing money.

As a result, it is critical to monitor price movements and exit at the appropriate moment.
 

Zooscopy

Active member
Carry trading is borrowing low-yielding currencies and investing in higher-yielding currencies with higher interest rates, resulting in fast profits.
 
The basics of carry trading strategy lies in the fact that the trader has to accurately analyse in which direction the market will move in the near future. As carry trading involves holding the currency pair for a long time, the trader needs to analyse the market daily in order to be sure of his position. If the market moves against this prediction, the trader can wait for sometime, risking his holdings, to hope that the market will move in his predictions again. Or, the trader can exit the trade with the profits he made till then.
 

Bumblebee

Active member
Thank you for this great explanation! In my personal experience, I never trusted carry trading without even trying it, I always believed that it would result in a decreased profit, or a loss, because trades shouldn’t be left open after the market closes for the weekends. This explanation changed my viewpoint, and I’ll definitely try it next time.
 
That article was really informative. For beginners, carry trading can be an excellent place to start. I hope this knowledge will be useful to many new traders. I appreciate your time and energy.
 

Sacralgia

Member
The ideal currency pair for carry trade is pairs with a high interest rate base currency and low interest rate quote currency. The secondary currency is most important when you choose a pair for carry trade. Japanese yen (JPY) is the most popular one for carry trade due to the low interest rate. CHF (Swiss Franc) is also a good currency for carry trade. The currency pair you choose is very important in order to earn profits with carry trading.
 
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