More on Yen Carry Trade

| March 2, 2007

In my latest post, I threw around a few terms at the end that may not be well understood. One of them in particular, Yen Carry Trade, is key to the risk our economy is in.

Mark Larson from Money and Markets has an excellent write up
A real monster behind the market plunge!

Executive summary: It has been possible for quite some time for large investors to borrow money for almost 0% interest from banks in Japan. They use this essentially “free money” to invest in all sorts of things from buying mortgage back securities to US treasuries to stocks on any number of exchanges. Frequently they use leverage or margin to buy 10:1 or 100:1, meaning if they can by 10 or 100 times as much as they could if they were only using the cash they just borrowed in Japan.

This has been one of the primary drivers for where all of the money to fuel the nice increases in housing prices, stocks, pretty much everything that we have been (largely) enjoying. This game works great forwards, but it could get very nasty in reverse.

As the Shanghai exchange dipped Tuesday, Asia investors decided to move money out of China and park it some place safe, like Japan. As money flowed into the Yen, it became more expensive. This made all of those loans, and their margin leverage more expensive to repay. There is a working theory that big Yen carry trade players are starting to get “margin calls”, meaning that the investment houses that created the margins for them are now requiring the trader to pony up some cash to cover the widening spread. That requires selling some assets, and when you have more selling than buying, you can see markets move down. Tuesday was likely only the beginning.

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Category: Credit Backlash, Economics, Recession Watch

About the Author ()

Bruce Henderson is a former Marine who focuses custom data mining and visualization technologies on the economy and other disasters.

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