Carry (investment)

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The carry of an asset is the return obtained from holding it (if positive), or the cost with holding it (if negative).

For instance, commodities are negative carry assets, as they incur storage costs.

This can also refer to a trade with more than one leg, where you earn the spread between borrowing a low carry asset and lending a high carry one.

Carry trades are not arbitrages: they make money if nothing changes, but things may change.

[edit] Interest rates

For instance, the traditional income stream from commercial banks is to borrow cheap (at the low overnight rate, i.e., the rate at which they pay depositors) and lend dear (at the long-term rate).

This works in an upward-sloping yield curve, but loses money if the curve becomes inverted. The floating of short-term rates when Paul Volcker was the chairman of Federal Reserve caused exactly this problem, and was the seed of the Savings and Loan crisis.

Some characterized traditional commercial banking as a "3-6-3" business: borrow at 3%, lend at 6% (thus earning the 3% spread), be on the golf course by 3 pm.

[edit] Currency

The term carry trade without further modification refers to currency carry trade: investors borrow low-yielding currencies and lend high-yielding ones. It tends to correlate with global financial and exchange-rate stability, and retracts in use during global liquidity shortages.

The risk here is that foreign exchange rates will change, and the investor will have to pay back now more expensive currency with less valuable currency.