FX traders may be getting carried away
July 15 (Reuters) -FX traders may be getting carried away as they are lured into too many trades that are based on interest rates which depend on quiet conditions, when their trading is spurring moves that could lead to an unexpected rise in volatility that hurts them.
Carry trades rely on two factors: robust risk appetite - and this is the case with stocks soaring - and quiet conditions. And the latter is more important. When FX markets are moving, it's easier to make money gambling on direction - carry trades are not necessary.
FX markets have been quiet for a long time, which has seen a surge in the popularity of carry trades. This has driven down the value of currencies undermined by very low interest rates such as the yen, Swiss franc, Thai baht and Taiwan dollar and boosted the value of the dollar.
However, there has clearly been a strong will to spread risk which has lifted the euro, pound, New Zealand dollar and Australian dollar, and that's led to some extreme situations.
Bets against yen and Swiss franc have grown massive, and towards records. Betting in favour of the pound is at a 17-year high. Traders are betting Australia's dollar rises for the first time since 2021. Bets against Canada's dollar recently reached a record level, and the lure of Mexico's high interest rate has encouraged many to invest in an emerging currency that has a tendency to plunge.
Extreme situations should be avoided, and the extent of positioning resulting from demand for carry trades suggests that now may be a good time to cover the risk of an adjustment.
Holding dollars may provide the best insurance, though Swiss franc and yen are also considered safe, and with bets against both now huge, they could outperform the dollar during a truly risk-averse period.
For more click on FXBUZ
(Jeremy Boulton is a Reuters market analyst. The views expressed are his own)
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