(ZT) The great carry trade unwind begins

FX Shockwave: The Great Carry Trade Unwind Begins The leading indices staged a rally of over 2% yesterday following another "Trump flip-flop" on the tariff issue, while the Ministry of Finance's announcement regarding the potential creation of a "Janet Yellen ATI" managed to calm global bond markets and boost optimism. Nvidia's earnings report today (expected to be strong for the last quarter but problematic for Q3 and Q4) could provide further momentum. However, I believe this is a secondary story for the coming days—what’s happening in the foreign exchange (FX) market is far more critical and could trigger a significant unwind of carry trade positions by institutional investors. For the first time, we are likely to feel the impact of the recent disruption in global trade on the U.S. market. As noted in previous posts, production and payment chains have been completely disrupted since April, fundamentally altering FX market dynamics. This has led to significant dollar surpluses in the spot market in Asia (TWD, KRW, HKD), while pressure in the basis market continues to build. Today, we are seeing extremely negative basis rates in currencies like HKD, TWD, and KRW. Meanwhile, the pressure in Asia is starting to spread to other regions (all tied to payment terms with the U.S.). The SEK and ZAR are already signaling dollar shortages. I believe the widening of the EUR/USD basis is the next step. Why is this critical? The basis and forward rates determine foreign demand for U.S. assets. Consider an institutional investor from Taiwan with obligations in TWD looking to invest in U.S. assets (bills, stocks). I’m exposed to FX fluctuations during the investment period, so I’ll want to hedge my positions, typically for 3 or 6 months. If the cost of hedging is too high, I won’t take the position or will unwind an existing one. Ultimately, the opening and closing of hedges converge around key dates: IMM dates, end of month (EOM), and end of quarter (EOQ). These are decision points for institutional investors: Does the carry trade still justify new hedges? If hedging costs are too high, should the position be closed? In simple terms: the coming days will mark the first significant exit point for foreign institutional investors from positions opened 3–6 months ago. However, hedging costs in the FX market are now extraordinarily high. How high? The cost of hedging USDTWD for 3 months is 10.4% annualized, compared to 1.28% three months ago. For 6 months, it’s 8.96% versus 2.05% three months ago. At these levels, hedging costs effectively eliminate the possibility of carry trades, prompting many institutions to close positions. Another example: For a Korean institutional investor, 3- and 6-month hedging costs are 2.55% and 2.52% annualized, respectively, compared to 0.59% and 1.59% three months ago. The implication: The FX market is dismantling carry trades across most assets. Given the severity of hedging costs, we're likely entering a period of unprecedented FX market volatility as institutional carry trades unwind PERFECT STORM!
 

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• 对我来说太复杂了，看得头疼 -moneytalks- ♂ (0 bytes) () 05/28/2025 postreply 11:38:10