A term that has piqued the interest of retail investors, traders, and veteran investors alike in recent weeks is “carry trade.” The increase in attention has partly been fuelled by the outflow of funds from India.
Analysts estimate that India experienced the largest weekly redemption or fund outflows since June ‘22 in the past one week. Redemptions totalled $437 million, of which $320 million came from Global Emerging Market (GEM) funds, indicating that stakes are high.
Two key questions may be on investors’ minds: What is a carry trade, and how does it affect Indian markets? Let’s dig deeper to know more.
THE STORY OF TRADES
A carry trade is a well-known investment strategy. It involves borrowing funds in a currency with a low interest rate and investing them in another currency offering a higher interest rate. So, the goal is to profit from the interest rate differential between the two currencies.
Some investors also follow this same strategy in borrowing funds in a low-interest-rate-currency and investing them in assets with potentially higher returns, such as equities or cryptocurrencies.
Essentially, a carry trade is the return an investor earns from holding or carrying an asset, such as a currency or commodity, over time. These are some of the benefits of using a carry trade strategy.
However, there is a downside to using a carry trade strategy. One of the primary risks is the uncertainty and volatility involved in predicting and estimating currency movements. Investing in foreign currencies exposes investors to market conditions that can be challenging to navigate. Factors such as interest rate differentials, exchange rate dynamics, and global market conditions are complex and can lead to huge losses for an investor if not managed carefully.
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