Weekly Report

Currently conditions are right for carry trades. Yet given the return profile of carry trades, slow accumulation of return followed by sharp depreciation, keeping an eye out for when to unwind is critical. In the near-term escalation of tensions in the Ukraine could be a catalyst. In the mid-term, as Federal reserve inches closer to ending QE three, the tighter monetary policy should see US treasury yields head back toward the psychological 3.00% level. We suspect that the biggest loser against

the rising USD will not be in the EM space, but within G10. True, the cost of USD funding will increase, yet the removal of unconventional policy indicates the US economic recover is robust and should be seen as a positive for account surplus EM nations. Carry trades need a low cost funding instrument and low volatility environment in order to perform well. Higher US yields will clearly pull up the cost of funding as well. With the EM space it seems that the market has already priced steady recovery in US growth, a measured deceleration of US monetary stimulus, steepening in the yield curve and gradual strengthening of the USD. Currencies such as the AUD and CAD, all with central banks determined to keep policy rates low, will quickly see traders paring down long carry derived positions.