The yen carry

Now let’s examine the total carry trade return from borrowing three month JPY and lending the proceeds in three-month LIBOR of the other 28 currencies. Figure 2 shows that, as before, Turkey and Argentina stand out in total returns and the standard deviation of returns. Australia once again stands out for its high standard deviation, as does South Africa. A number of countries moved up or down in their total return rank from what we saw in the simple interest rate carry rank; for example, Poland moved higher while Colombia moved lower.

These shifts are produced by the impact of the spot rate in the total return mix. The PLN’s spot rate contributed an average annual gain of 2.6 percent, while the COP’s was a robber, pulling the average annual return down 2.8 percent. The most significant aspect of Figure 3 was how Turkey and Argentina both were able to stay at the top of the total return heap despite average annual spot rate losses of 17.4 percent and 13.2 percent, respectively.

Brazil, which slipped from its interest rate carry rank, still managed a 10.2 percent average annual return despite an average annual spot rate loss of 5.9 percent. The message here is clear and unequivocal: Persistently high interest rates can lead to a profitable carry trade even for the most dreadfully mismanaged economies. These might not be perpetual motion machines, but they are certainly well-lubricated devices.