The logical rejoinder

If high interest rates reward risk-seeking investors who borrow JPY and lend TRY and ARS, don’t those same high interest rates devastate the stock markets of those countries? Let’s map average annual stock market returns in USD terms for each country against the yen carry trade and its components. First, let’s map the returns against the entire carry trade (Figure 4). Even if we isolate the obvious outliers of Turkey and Argentina, the positive relationship between stock market returns in USD terms and total return on the yen carry trade is both visually apparent and statistically demonstrable; the regression beta (a way of comparing variables of two different units) is 1.541.

Is this positive correlation the result of the interest rate spread component or the spot rate component of the yen carry trade? First, let’s map stock market returns against the spot rate component of the yen carry trade (Figure 5). If we isolate Turkey and Argentina, we wind up with what appears to be a non-deterministic relationship. Here the regression beta is a near-vertical -0.085. This should lead us to suspect it is the interest rate spread component that drives the relationship between stock market returns and the yen carry trade (Figure 6). Here the regression beta is 1.085.