The yen carry trade has a deep history and its

The yen carry trade has a deep history and its effects are unexpectedly significant. Before the 2008 financial crisis, hedge funds borrowed yen to convert it into dollars and invested in US real estate-related MBS bonds or CDOs, which triggered the subprime mortgage crisis. In Korea, people once borrowed at low-interest dollars, exchanged them for won, and invested in real estate projects. The carry trade is used as a source of liquidity in the financial market, but in severe cases, it can also dramatically increase the volatility of the financial market.

To avoid risk while doing a carry trade, you can do a so-called covered carry trade. You can borrow the yen at low interest rates to convert it into a dollar, invest in high-interest dollar assets, and sell yen-dollar futures at the same time. Then, the risk decreases as you only need to cover the currency risk and take the difference in returns between the two countries. Of course, the larger the yen-dollar interest rate difference, the higher the price of yen-dollar futures. This is because the futures price itself is calculated by the difference in interest rates. For this reason, the rate of return of covered carry trade is low.

In order to enjoy the original high-yield strategy of the yen carry trade, we need to go with the uncapped carry trade strategy. It is aiming only at the yen-dollar interest rate difference while not hedging the currency risk. It is a very useful strategy under the fixed exchange rate system. Later, the yen has to be changed to yen again and the yen's borrowings have to be paid back, so the yen gains as it becomes weaker. The problem is when the international financial environment changes rapidly and the yen suddenly strengthens. In this case, the Uncovered yen carry investor faces tremendous foreign exchange loss. This was the case last week. The yen exchange rate plunged from 162 yen to 143 yen per dollar. The dollar rose as much as it did and the yen fell. A whopping 10% of foreign exchange losses occurred all of a sudden. In this case, you have to go for sale. Or you have to suddenly hedge. If you buy a yen futures to hedge, the spot price of the yen rises as well. The U.S. stock market plunged due to the loss, and the Japanese stock market plunged due to concerns over the negative impact of the yen's strengthening. It was the first sudden change in the international financial market since around 2016.

It was the Bank of Japan's rate hike that triggered the yen's extreme strength. The negative interest rate, which had been maintained for 18 years, was raised to plus 0.1% in March and again to 0.25% at the end of July. The U.S.-Japan interest rate gap narrowed by only 0.15%, but the shock was significant. This is because there is a high possibility that the Fed will cut interest rates in the future. If this happens, the U.S.-Japan interest rate gap will be narrowed rapidly. Financial markets reacted very nervously and dramatically to the scheduled rate hike. A little bit of good news has sent a surge as if a crazy guy is running. Volatility is increasing very much, led by Nvidia. George Soros said that the rapid increase in volatility is a sign of a big change in trend. Except for COVID-19, do I have the only feeling that something big will happen to the economy, which has been rolling well in its own way without much difficulty since 2008?