Carried off

9 March 2006

Rising global interest rates have sapped the carry trade that has powered investor interest in high yield emerging markets. Several, like Brazil, have been hit. The fear is that a financial Armageddon lies around the corner. That is unlikely, for now.

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Highyielding emergingmarket currencies have come under pressure over the past two weeks, led by the Icelandic koruna, following rises in global interest rates.

Two weeks ago, the koruna fell by 9% in one day after the country's debt was downgraded by Fitch Ratings. Iceland is not normally considered an emerging market, although its economy has several features often associated with emerging markets, such as high external indebtedness and a large current account deficit.

Pressure has since spread to other highyield currencies. The Brazilian real and the Turkish lira have fallen by almost 4% each since March 3, while the Hungarian forint has fallen by almost 3%.

The falls followed a spike last week in the yield on the US 10year bond to 4.75% from 4.6%. On Thursday the Bank of Japan also ended its fiveyear deflation fighting policy, although it said it would keep its short term interest rate close to zero.

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