Carry Trade's Struggles Have One Analyst Saying Do the Opposite

(Bloomberg) -- The outlook for one of the most popular currency-trading strategies is in doubt, even after a two-week rebound, so one analyst says investors should consider the reverse approach.

The carry trade, where investors borrow in low-yielding currencies to buy assets where rates are higher, has pared its loss for the last year to about 6 percent, according to a Deutsche Bank AG index. Nonetheless, the potential for volatility ahead means the strategy is likely to underperform and possibly unwind, according to Alice Leng, an FX strategist at Bank of America Corp.

Carry Trade's Struggles Have One Analyst Saying Do the Opposite

Investors may be able to turn a profit by selling higher-yielding assets like the Australian dollar for low-yielding haven counterparts, she said. Amid tumult in equities and climbing global trade tensions, that approach worked well in the first quarter, when the yen was the strongest Group-of-10 currency against both the aussie and the U.S. dollar.

“The current movement is the opposite of what you would want from a carry trade,” Leng said. “The opposite of a carry strategy should be able to perform well from a systematic perspective.”

Leng expects carry’s recent outperformance to fade as market swings pick up and boost lower-yielding funding currencies like the yen and Swiss franc.

“Our view is that volatility will increase” in FX, she said.

Other analysts see the carry trade continuing to generate positive returns, after it gained about 1.6 percent in the past two weeks.

The start of U.S. earnings season this week may draw investors’ focus, diverting attention from recent sources of market turmoil and keeping a lid on volatility, according to Manuel Oliveri, an FX strategist at Credit Agricole.

He highlighted the Norwegian krone-Swiss franc pair as one that can produce value. That combination has generated a return of about 4 percent this year, the highest among G-10 carry trades funded in the franc, data compiled by Bloomberg show.

“It is all about risk sentiment,” Oliveri said in an email. “Given we have a two-months consultation period when it comes to trade talks in the U.S., the focus can shift to other developments.”

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