This article covers the times when you should carry trade forex strategies and when not.
The carry trade can be viewed as one of the most popular forex strategies in the market. It involves purchasing a high yielding currency with a low yielding currency.
The most popular trades in this section involve the purchase of pairs such as the AUD/JPY and NZD/JPY. The reason for this is that the interest rates on these pairs are extremely high. Your first step is to determine the currencies that offer a high yield and those that offer a low yield. This will allow you to match the highest with the lowest.
When to Use Carry Trades
Carry trades can be successful when the central banks are planning to increase interest rates or have increased them. This means that investors are ready to move their funds to the higher yielding currency where they will obtain a high rate of return. The attraction to the carry trade is not only the yield, but the capital appreciation as well. When central banks increase interest rates, many people enter the same trade. This movement increases the value of the currency. The best time to enter the trades is at the start of the rate adjustment cycle, not the end.
This strategy is known to perform well during periods of low volatility simply because traders are prepared to take more risks. You are looking for yield. The capital appreciation is not your main target. This is the reason for hedge funds using the carry trade. They have huge sums of money available and are quite happy if there is no movement in currency as they still earn interest. The main point is for the currency not to decline and you will still make money.
When Not to Use Carry Trade Forex Strategies
You should be questioning your strategy if the high interest rate countries decide to decrease their rates. For your trading to be successful with this strategy, the currency pair needs to remain at the same value or increase. When interest rates fall, investors become nervous and start looking to move their funds elsewhere. This causes a decline in the demand for the currency which lowers the value.
Your carry trades are at risk if central banks decide to intervene with rate manipulation. Countries with strong export markets do not really want an extremely strong currency value as this could affect their export level. By the same token, an extremely weak currency will be detrimental for companies with international operations. A hint at possible central bank intervention could reverse your gains with this forex strategy.
This forex strategy is a long-term one and is most suited to investors rather than traders. You can make money from carry trading if you are prepared to hang on to your positions for long periods of time. To do this effectively, you need to check on interest rates and your trades on a regular basis.
You should be alert to the changes in the interest rates. If the forex rate decreases by more than the average annual interest rate, this strategy will fail. The use of leverage can increase your profits dramatically with this system, but it can wipe out your account if the trade fails.