Borrowing in a low-interest-rate currency to invest in a high-interest-rate currency — profiting from the interest rate differential as long as the exchange rate remains stable.
Deeper Explanation
The carry trade is one of the most persistently profitable strategies in currency markets — and one of the most violently unprofitable when it reverses. Traders borrow in Japanese yen (historically near-zero rates) and invest in Australian dollars or Brazilian reais (higher rates), collecting the interest differential. The strategy fails when risk aversion causes global capital to repatriate to safe havens, causing the funding currency (yen) to appreciate sharply and the target currency to depreciate — producing a double loss. Carry trade unwinds are typically fast and brutal: the August 2024 carry trade unwind saw the yen appreciate 15% in weeks as investors simultaneously unwound similar positions.
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