I was lucky to be joined by Nikolai Roussanov and Wesley Gray on our podcast last week. Gray, CEO of Alpha Architect, describes Roussanov as a Russian math genius who went to Harvard, and someone he studied with at the University of Chicago for his PhD. Roussanov came to Wharton in 2007—his first job out of graduate school—and his research has focused on global macro, foreign exchange, carry trades and commodity currencies, as well as fracking and oil. This podcast was the first in a series Gray and I plan to do together—hosting academics with practical insights on the markets.
The Carry Trade
Roussanov discusses the carry trade as one of the oldest global macro trades and refers to extensions of it in the 1500s. Academically speaking, people have been studying the carry trade back to the 1980s. The idea of a carry trade is to go long high-interest-rate currencies and short the low-interest-rate currencies. Uncovered interest rate parity would suggest that the higher-interest-rate currencies should depreciate by the amount of the higher-interest-rates. The carry trade has worked on average over time because these higher-rate currencies have not depreciated by their higher rates and one has been able to earn a “carry” factor return.
Of course, strategies that work on average over time can have large losses. During the financial crisis, carry trades suffered significantly—with high-interest-rate currencies going down and low-interest-rate currencies like the yen and Swiss franc appreciating greatly.
Roussanov believes there is a common factor structure in foreign exchange. During good economic times, high-interest-rate currencies tend to appreciate in a group and low-interest-rate currencies depreciate in a group. During bad times, high macro uncertainty causes the reverse occurrence—where low-rate currencies like the yen tend to appreciate (this is the classic risk-off environment).
Commodity Currency Carry Trade vs. Commodity Futures: Roussanov discusses how commodity-exporting countries have often had high-interest-rate currencies. The economies of funding currencies like the euro, yen and Swiss franc are not commodity rich and import a lot of their goods. Commodity-exporting countries see their currencies moving in line with commodity prices. We saw these currencies and commodities all move down during the financial crisis, just as the currencies of the importers all appreciated during those periods.
