By Kim Jae-kyoung
Staff Reporter
With growing signs of economic recovery, global investors and hedge funds are starting to gain risk appetite and re-adopt one of the riskier investment strategies in the currency market, known as ``carry trade.''
Once the carry trade is back in full swing, more funds will be flowing into emerging financial markets, providing another boost for the key index KOSPI and the local currency.
Carry trade refers to the investment strategy of borrowing money in countries with low interest rates and investing in high-yielding currencies and assets elsewhere. Carry trade, in general, takes place when there is an interest rate gap between countries.
"There are growing signs of global investors returning to carry trade, as global markets have restored stability amid economic recovery. They are starting to borrow money in the U.S. and Japan and investing in riskier currencies in emerging markets, such as Korea, China and Brazil for higher returns,'' a BOK economist said, asking not to be named.
``I expect the trend to continue going forward, which will be both a plus and minus for the economy. On the one hand, it can boost stock prices. But on the other hand, it can strengthen the won further, chipping away at the competitiveness of local exporters.''
The return of carry trade came as some emerging countries have hinted at rate hikes sooner than later, as their economies are showing signs of a quick recovery from the deep recession.
On Wednesday, the key rates for the U.S. and Japan stood at 0.25 percent and 0.1 percent, respectively, while those for China, Brazil and Australia were set at 5.31 percent, 8.75 percent and 3 percent. Last week, the BOK froze its key rate at the record low level of 2 percent for the sixth consecutive month.
For carry traders, the Japanese yen and U.S. dollars are considered popular borrowing currencies as their policy rates are at the rock bottom of near zero percent. Brazilian real is seen as one of the favorite investment destinations with its policy rate at 8.25 percent despite a series of cuts this year. The currency rose 28 percent against the U.S. dollar from the end of February.
Carry traders are also keeping eyes on Australia and Korea, as positive economic data has raised possibilities of earlier rate hikes. Australian dollars and Korean won also gained much ground against the U.S. dollar this year.
``Carry trade was one of the key culprits behind the collapse of the local market following the global credit crisis. Carry traders then pulled their money out of emerging markets en masse to cut losses, which dealt a fatal blow to the local market,'' a Seoul analyst said.
``But they are now borrowing cheap in the U.S. and Japan and investing in riskier currencies in higher stock markets, supporting market rallies,'' he added.
The Wall Street Journal reported Monday that as markets calm down and some central banks signal interest-rate increases while others hold rates near zero, hedge funds and other investors are wading back in.
It quoted Stephen Jen, a managing director at BlueGold Capital Management LLP in London, as saying, "It's starting to come back. Investors are starting to think about rate hikes, which makes such trades more relevant and attractive."