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Carry currencies to tempt central banks
Central bankers as carry traders? Why not.
As we wrote here yesterday, FX reserves at global central banks may be starting to rise again. That's a consequence of a pick up in portfolio investment flows in recent weeks and is likely to continue after the U.S. Fed's announcement of its QE3 money-printing programme.
According to analysts at ING, the Fed’s decision to restart its printing presses will first of all increase liquidity (some of which will find its way into central bank coffers). Second, it also tends to depress volatility and lower volatility encourages the carry trade. Over the next 12 months these two themes will combine as global reserve managers twin their efforts to keep their money safe and still try to make a return, ING predicts, dubbing it a positive carry story.
The first problem is that yields are abysmal on traditional reserve currencies. That means any reserve managers keen to boost returns will try to diversify from the dollar, euro, sterling and yen that constitute 90 percent of global reserves. Back in the spring of 2009 when the Fed scaled up QE1, its move depressed the dollar and drove reserve managers towards the euro, which was the most liquid alternative at the time. ING writes:
This time, however, we are not looking for the same kind of euro pick-up that we saw in 2009. FX reserve managers typically invest in securities rated AA or higher. Even if they extend durations out to the 5-year area of sovereign curves, an average of AA/AAA Eurozone yields only pays 0.75% – exactly the same as Treasuries.5-year UK gilts are not much better at 0.9 % while Japan pays a measly 0.2% on 5-year bonds.
