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Carry Trade Strategy: How it Works, Best Pairs, Pros & Cons

A carry trade is simply buying a high-interest-rate currency and selling a low-interest-rate currency. Find out if it works with pros, cons, & tips. 

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Currencies are the best assets to trade when you are interested in economic and geopolitical events. For traders with the knowledge of fundamental factors, the carry trade is a great strategy.

The carry trade allows you to significantly magnify the trading outcome and maximize the use of your trade capital. In this blog, we will understand carry trading meaning, how it works, with pros, cons & tips.

What is a Carry Trading strategy?

A carry trade strategy is simply buying a high-interest-rate currency and selling a low-interest-rate currency, and making money from the interest rate differential. 

Carry traders keep a watch on the interest rate of diverse currencies and take advantage of changes. Fundamental factors, such as gross domestic product, central bank policies, and export-import data, are quite important for the carry trade strategy. 

Japanese Yen (JPY), Swiss Franc (CHF), and Euro (EUR) are the best low-yielding currencies. The Australian Dollar (AUD), New Zealand Dollar (NZD), and Mexican Peso (MXN) are some high-yielding currencies. 

Carry Trade

How Carry Trading Works

Carry trading is a quite popular strategy with historical significance. Traders for years, carrying trades on diverse currency pairs and earning good profits. 

The yen carry trading is quite popular amongst traders. The yen was traded against currencies such as the Australian and New Zealand Dollar. 

Basically, carry traders buy high-yielding currencies against the low-yielding currencies, such as Japanese Yen, and make money from the interest rate difference. Let us say, a person interested in carry trade. 

So the trader can open a buying position jpy carry trade in NZD/JPY, and when the interest rate moves in a preferred direction, the trader will earn a profit. 

Although carry trading gives significant returns. However, it became unpredictable and risky sometimes. Like in mid-2024, when the Bank of Japan raised its rate significantly, the strategy lost its effectiveness. 

Benefits of Carry Trading

There are so many strategies for trading foreign exchange currency, so why do people still choose carry trading? Well, the strategy has many benefits, let’s explore: 

Simplicity & Flexibility:

Carry trading is a simple strategy; you just need to clear your basics and concepts. The carry trading formula makes the calculation easy and quick so that you can make trade decisions effectively. 

Also, there are multiple carry trading types; the strategy can be used for trading diverse pairs at diverse time frames.  

High Returns:

Generally, carry traders use high leverage with the strategy. Many brokers offer leverage up to 1:500 to carry traders. So you can make a big profit. Even in cases when you are using low leverage, such as 1:10, the return can be 10 times. 

Low Volatility Trading:

Carry trading works well in low-volatility markets. Low volatility means stable market conditions and less risk. As a result, traders will not lose a big amount until something big happens.

Suitability:

Carry trading strategy can be suitable for long-term traders. With carry trades, your trade will not be affected by small market condition changes, making it ideal for beginners. 

Cons of Carry Trading

With the benefits, carry trading also has some limitations. And before going for the strategy, you should know them. Here are the downsides of carry trading: 

Unpredictability:

Sometimes, the central banks make unpredictable changes to the currency interest rate. In such cases, traders can suffer massive losses. 

Unexpected Events:

Carry trading focuses on market fundamentals. An unexpected event, such as war, a change in diplomatic relations, or speeches, can significantly affect your trades.

High Risk:

Although leverage amplifies profits, it can also increase losses. If the market conditions move against you, then high leverage can make you lose significant money. 

Tips for Carry Trading

Carry trading is a great strategy, but only when you use it correctly. Here are some tips for you for effective use: 

  • Keep a watch on fundamentals such as central banks’ policies, announcements, economic indicators, and geopolitical events to predict the interest rate changes efficiently. 
  • Choose currency pairs vigilantly. Not all currency pairs are ideal for carry trading. Also, pairing the right currencies is important. 
  • The timing for entering a carry trade position is important. Generally, low volatility and interest rate announcement periods are ideal for carry trading. 
  • Diversifying your portfolio is important to manage the risk associated with carry trading, especially when you are using leverage. 
  • Always use a stop loss order to protect your trading capital. 

Wrapping Up

Carry trading is a simple trade strategy that can give you high returns in a relatively short time. However, the simple strategies require knowledge of complex trade topics such as interest rate differential and global politics. 

That’s why proper knowledge and practice are important. Our demo accounts can help you gain a practical understanding of the diverse strategies. Open a demo account with us and get started on your trading journey. 

A carry trade strategy is simply buying a high-interest-rate currency and selling a low-interest-rate currency, and making money from the interest rate differential.

Yes, however, after mid-2024, people started going for other trading when the Bank of Japan raised its interest rate significantly, impacting carry traders. 

The best carry trades are of combination of low-yielding currencies such as JPY, CHF, and EUR,  and high-yielding currencies such as AUD, NZD, and MXN.

 

A reverse carry is when traders sell high-interest-rate currency and buy low-interest-rate currency.

A currency carry trade strategy is simply buying a high-interest-rate currency and selling a low-interest-rate currency, and making money from the interest rate differential.