(Kitco News) - The gold and silver markets are solidly lower in late-morning dealings Monday, but up from daily lows, as they continue to feel the bearish impacts of the unwinding of the so-called “yen carry trade” as well as worries about a U.S. and/or global economic recession crimping demand for metals.
I gave my valued Kitco readers a heads-up on the yen carry trade in last Wednesday’s “Front Burner” markets email report. In a nutshel, the Bank of Japan last week raised its main interest again and also said it would reduce its government bond buying by half. This monetary-policy-tightening news has rallied the Japanese yen against the U.S. dollar. The tighter monetary policy in Japan, combined with the likelihood of U.S. interest rate cuts coming soon, have shifted global investment flows, including the so-called yen carry trades being unwound.
Generally speaking, a carry trade is a strategy whereby a trader or institution borrows funds from a country with a lower sovereign interest rate and invests those funds into another country that has a higher sovereign interest rate. The borrowed funds are converted into the currency whose sovereign interest rate is higher—thus providing a higher rate of return. The proceeds from the borrowed funds could be moved into assets such as stocks, commodities, bonds, or real estate that are denominated in the second currency whose sovereign interest rate is higher. Up until the latest rate increase by the BOJ, its interest rate at zero to 0.1% compared to the Federal Reserve's interest rate of 5.25% to 5.50%. That had been the driver of the “yen carry trade.”
Some of the big institutions such as investment banks and/or hedge funds have been “wrong-footed” by the somewhat surprising developments of the past few months that have seen the BOJ pivot from its ultra-easy monetary policy, as well as the Federal Reserve gradually committing to wanting to lower U.S. interest rates as inflation has cooled, along with the U.S. economy. To unwind the yen carry trade that may have moved under water for them, these institutions probably had to also unload some of the assets they were not yet ready to sell. These assets include stocks and commodities, including gold and silver.
There’s an old saying in the marketplace that during panicky times, if you can’t sell what you want, you sell what you can. That appears to be the case in gold and silver today, and part of the reason the safe-haven metals are not performing to the upside during the heightened uncertainty. Still, don’t be surprised to see bargain hunters and safe-haven buyers step in at some point soon to support gold and silver—especially if the global marketplace remains unnerved this week.
A Wall Street Journal report today said the carry trade unwind “should lose momentum in the coming days as the ongoing short-squeeze plays itself out and the most dangerous exposures are covered,” according to Corpay’s Karl Schamotta. He added the carry trade got too large, with millions of retail traders, thousands of businesses and hundreds of large institutions were executing transactions “in a deeply opaque over-the-counter foreign exchange markets,” according to the Wall Street Journal report.
It you would like to read the entire Front Burner email dispatch from last week, regarding the week’s heads-up on the carry trade impact, just send me an email at jim@jimwyckoff.com
Also, to receive my free weekly Front Burner reports, to get more early insight into market developments, go to https://www.kitco.com/services and sign up. It’s easy.
