Foreign exchange funds double average returns due to the biggest divergence in central bank rates since 2008

• According to Bloomberg, foreign exchange funds are set to achieve an annual return of around 7%.

• This is more than twice their average return over the last 20 years.

• It comes as rates across the top 10 global economies are diverging the most since 2008.

Currency investors are seeing significant returns this year due to substantial differences in interest rates across the top 10 global economies, the widest since 2008.

Based on data from BarclayHedge cited by Bloomberg, foreign exchange funds are expected to achieve an annual return of around 7%, more than double the average return over the past two decades.

So far this year, traders have enjoyed returns as high as 20% by selling the Japanese yen to buy the US dollar, according to Bloomberg. Additionally, investors who sold Swedish krona to purchase British pound sterling made around 9%.

Adjusted for volatility, returns are poised to reach their highest level since 2016, as indicated by Nomura’s Group of 10 FX Carry Index.

Currency “carry trades” involve investors exploiting the difference between interest rates in two countries by borrowing in one currency at low rates and investing in a higher-yielding currency elsewhere.

Currently, the gaps in interest rates among Group of 10 countries are substantial, with standard deviations as high as 2.250, based on data cited by Bloomberg.

This is due to varying levels of post-pandemic inflation that impacted different countries, and each central bank responded differently. For instance, while the US Federal Reserve aggressively raised rates for a year and a half, the Bank of Japan maintained firm control over rates.

Currency carry trades are among the most popular trades in the foreign exchange market, but maintaining returns has become more challenging. Numerous foreign exchange funds have closed over the years due to an inability to sustain growth.

Since their peak in 2007, Bloomberg reported that roughly 80% of dedicated currency managers have ceased operations. However, recent gains have helped mitigate the number of fund closures this year.

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