In plain English
What Carry trade means
In a currency carry trade, the trader is trying to earn the spread between a cheap funding currency and a higher-yielding target currency. If exchange rates stay stable, the interest difference can help the trade. If the funding currency strengthens or volatility rises, the trade can lose money quickly.
Why it matters
Carry trades are important because they link interest-rate differences to currency demand and exchange-rate behavior. They also help explain why some traders pay attention to overnight financing and central-bank policy. The strategy can look attractive during low-volatility periods but become fragile when markets reprice risk.
Example
A trader borrows in a low-yield currency and buys a higher-yield currency pair, expecting to collect the rate difference over time. If the target currency rises slightly or stays stable, the carry may help. If the funding currency rallies sharply, the exchange-rate loss can overwhelm the carry income.
Quick answers
Common questions
What is the main risk in a carry trade?+
The main risk is exchange-rate movement that offsets the interest-rate advantage.
Is a carry trade always profitable if rates differ?+
No. The interest advantage can be outweighed by currency losses, funding costs, or leverage-related losses.
Sources