FX carry: Conviction trades face funding risks – BNY

BNY’s EMEA Macro Strategist Geoff Yu notes that FX risk appetite and carry trades have stayed resilient despite weaker global equities, with investors adding to overheld high-yielders such as MXN, BRL and PLN, and some low-yielding Asia-Pacific currencies. G10 Dollar-bloc currencies like AUD, CAD and NZD are being used as funding, but potential tightening pivots there pose a key risk to carry positioning.

Carry trades resilient but funding leg vulnerable

"Risk appetite in currency markets held up again last week, with limited underlying impact on the carry trade despite the sell-off in global equities."

"For example, over the past week, our data show that most iFlow-tracked currencies continue to follow a “conviction” path, whereby overheld currencies are added to and underheld currencies extend further in the opposite direction. Of the eight currencies that are currently overheld and were net bought, three are low-yielding Asia-Pacific (APAC) names, while the rest are relatively conventional high-yielders."

"iFlow’s current setup shows that multiple “conviction” views can coexist. Liquid, high-yielding carry currencies with a solid structural story, such as MXN, BRL and PLN, should continue to anchor interest, even at a high holdings levels, despite broader weakness in global risk appetite."

"The main risk at present for outright FX positions is on the funding leg: AUD, CAD and NZD have for several months been seen as candidates for a pivot toward tightening, with the Reserve Bank of Australia validating such market pricing this month."

"Furthermore, in an environment where fiscal dominance looms large, CHF and CZK will likely outperform even with rich valuations."

(This article was created with the help of an Artificial Intelligence tool and reviewed by an editor.)