Stock Markets and the Japanese Carry Trade

The Virginian ^ | 3/11/2007 | Moneyrunner

[moneyrunner]

So what is the “Carry Trade” about and what does it have to do with the turmoil in the global markets?

To understand this phenomenon we have to learn two terms: 1. Carry trade and … 2. Margin call.

First, the “carry trade.” This refers to the practice of borrowing money at a low rate and investing it at a higher rate. As you all learned by reading your Wall Street Journal, interest rates in Japan have been remarkably low; virtually zero. Enterprising speculators have been borrowing money in Japan and investing it in securities that paid more. These could be as low risk as US government bonds or as high risk as Chinese stocks.

If you can borrow Japanese yen at, say, 0.5% and buy US government bonds at, say, 4.5% you can make a fortune. And if you want to take more risk and invest the Japanese loan in the Chinese stock market which doubled last year, you could become very, very rich indeed.

This worked very well for some years. But there is something that can go wrong.

[moneyrunner]

Just in case you wondered.

[Enterprise]

Bump