Yen Carry Trade and Interest Rate Parity

Abstract

The “yen carry trade,” borrowing in yen and investing in high yield currency prompted by the low Japanese interest rate, has been prevalent for the last ten years or so. We find that the outcome of the 3-month uncovered “yen carry trade”, beginning March 1st of each year, tends to be positive for the last ten years. However, the results show that the source of returns on the “yen carry trade” in recent years is not interest rate differentials, but rather, the depreciation in the value of the yen. Interestingly, we find that the Korean won is the most attractive investing currency because returns are consistently positive except for one year, and large enough to exceed typical transaction cost.