Dollar emerges as the funding currency of choice-BIS

* Near zero rates in U.S., QE2 drag down dollar

* High-yielding currencies, emerging markets gain

By Anirban Nag

LONDON, Dec 12 (BestGrowthStock) – Expectations of low U.S. interest
rates and one-way bets against the dollar saw it emerge as the
new funding currency of choice for FX carry trades, the Bank for
International Settlements (BIS) said in its quarterly review.

Under carry trades, investors borrow in a currency with low
interest rates to invest in high-yielding and growth-linked ones
or riskier assets like stocks and commodities which generate
higher returns.
Traditionally the yen (JPY=: ) and the Swiss franc (CHF=: ) have
been used to fund these leveraged trades, but expectations that
the U.S. Federal Reserve will keep rates near zero and resort to
quantitative easing led to the dollar emerging as the markets’
preferred choice between August and early November this year.

“Appreciation pressures were stronger for countries with
high growth prospects and larger interest rate differentials,”
the BIS said.

“Appreciation was generally smaller for the currencies of
countries that continued to manage their exchange rate fully or
partially against the U.S. dollar. As a result, appreciation was
less pronounced in Asia, and China in particular.”

The BIS said the acceleration of capital inflows was
reflected in higher stock prices in a number of emerging market
countries and also visible in bond prices.

On the other hand, the dollar index (Read more about the global trade. ) (.DXY: ), a measure of the
greenback’s performance against a basket of currencies, lost
more than 17 percent between early June and November 4 this year
as hedge funds, central banks and others sold the dollar.

It has since rebounded as investors set aside concerns about
a slowdown in the U.S. to focus on sovereign debt problems in
the euro zone.

The BIS said foreign exchange carry trade volumes are
difficult to track due to a lack of data. It also partly
reflects the fact that these trades are often undertaken through
derivatives instruments such as cross-currency positions in
futures, forwards and swaps.

However, the Chicago currency futures market does offer some
insight, especially about whether speculators like hedge funds
and other non-bank financial institutions are going long or
short on a currency.

Data from the Commodity Futures Trading Commission show that
speculators had extended short dollar positions ahead of the
Fed’s decision to implement the second phase of quantitative
easing in early November.

Those positions have since been trimmed, but speculators are
still long on the Australian dollar (AUD=D4: ), Canadian dollar
(CAD=D4: ) the New Zealand dollar (NZD=D4: ) and the Mexican peso,
all considered high-yielding currencies.

The Australian dollar has been a clear outperformer, having
gained nearly 10 percent against the U.S. dollar and riding past
parity earlier this year. Australian interest rates at 4.75
percent are amongst the highest in the developed world, making
it an attractive investment for carry trades.

The BIS said risk reversals–or the premium required to hold
a put or a call option in a currency — reflected a view that
the dollar would weaken against most major currencies during the
August to November period.

“Rising net long positions in the yen and the Swiss franc,
which have historically been the preferred carry trade funding
currencies, were also consistent with expectations of U.S. dollar
weakening,” the BIS said.

(Editing by Toby Chopra)

Dollar emerges as the funding currency of choice-BIS