Ringgit may rise short term due to positive carry trades

This week, The Edge writes about carry trade in Malaysia and its prospects in the near term.

In a carry trade, investors borrow in countries like the US, where short-term borrowing costs are low. They would then purchase higher yielding assets like Malaysian Government Securities (MGS) to profit from the positive yield difference. 

This strategy relies on the stability of assets’ prices and exchange rates, since excessive movements can easily wipe out the profits of a carry trader.

The Edge analyzed several factors which seems to be working in favour of the carry trade in Malaysia.  

‘Fear’ Index at 2014 low 

To begin with, volatility in global financial markets is expected to be low in the coming months. This can be seen by the S&P 500 Vix index (Vix).

The Vix, which is also known as the ‘fear index’, is a widely-used indicator of the expectations of volatility. The higher the number, the more volatile or unstable investors expect the markets to be.

At the moment, the Vix is trading at about 12%, which is the near the lows of 2014. In contrast, the Vix peaked at 21.4% in February 2014. Despite the ‘sell in May and go away’ adage, the Vix indicates that investors have been relatively calm in May.

This works in favour of the carry trade because volatile markets tend to make investors think twice about being invested in the market. Instead, they are likely to withdraw their funds and hold cash. 

Apart from the Vix index, other factors which are discussed include the trading volatility of USDMYR, the spread of the Credit Default Swap on Malaysian sovereign debt and the potential rise in overnight policy rate by Bank Negara Malaysia.

Read more in The Edge this week.