Monday, November 16, 2009

The Australian Carry-Trade: 3.25% Rate Advertised, But Zero Chances in Reality

The Shocked Investor is yet again shocked. HSBC Canada had this ad on the weekend, and also on their web site:

It is advertised as a low-risk product. Anyone who thinks this is low risk should read the book Traders, Guns, and Money. It is full of examples of these currency deals - gone bad, all advertised by unscrupulous dealers and banks.

3.25%: Chances are ZERO.

There is an obvious risk. The chances of your investment returning 3.25% are virtually ZERO. If the Canadian dollar appreciates, investors will pay dearly, in fact they may have a negative return (anb vice-versa). Canadian rates have only onw way to go... This is, by the way, what the Japanese have been doing for years.

What have the governments done!

For Canadians, note that the investment is also not insured by FDIC.

A Much Better Deal

A much better deal is simply to buy FXA, the AUD ETF, which pays a current yield of 2.21%. On this, you can sell covered call options. For example, FXA is currently trading at $93.91. By selling the November 2010 95 call options you will make $6, or an instant 3.8%, or the 94 call for $6 (6.4%). Then, in June you will still have another 5 months to sell more options. Let's say you sell them for $2.50, or 2.6% ($3.10 for the 94s, 3.2%). You pocket in total, somewhere between 6.30% and 9.70%, plus the yield, for a final grand total of around 8.4% to 11.9%. You may also sell shorter time frame options for even more income, with a little more work.

You may also sell puts before entering the position. For example, you can sell the Dec 93 puts for $1.40, thereby instantly reducing your cost to $92.51 if you really want to buy the AUD. At that point, the yield will be higher than 2.21%.

Of course if the AUD goes down, you can still lose money, but significantly less than with HSBC.

And your money would not be locked for 1 year.

Amazing! Very easy money for HSBC. Of course they have many other ways of making money out of this, with ZERO risk - for them.

Note that we track all currency ETFs live here.

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Glenn Archer said...

I've looked at FXA before but decided to not go ahead because it's a USD-based ETF. How you hedge out the USD:CAD exchange risk as well?

The Shocked Investor said...

Indeed this is a play in USD, either the HSBC thing or the much better FXA play. For those using CAD, ultimately it is still a play in CAD-AUD, as the conversions will be done automatically under the hood, it does not matter which currency you use to buy FXA, you are stll buying with CAD.

However, I think what you are really asking is how to hedge CAD-USD. You could transfer money into your USD account in your brokerage and leave it there, or better yet, buy FXC, which will now pay you the dividend. It really depends on what you wish to do.

Another way to hedge for Canadians is by buying puts in USD. If the market tanks, both the puts and the USD will rise (double gain, versus time decay).

Glenn Archer said...

Ah, I see. I was originally thinking of a carry trade purely for the higher AUD interest rate and the dividend from the FXA in which case I'd want to hedge out the USD.

However, the fall in the USD works for both CAD and AUD so not a concern. The only thing is to figure out when to exit the trade when the USD rises against either/both currencies at some point.

The rise from the March lows for FXA has been consistent and in a strong uptrend. If the Fed's zero interest policy continues for the next 12-18 months as it looks likely, do you think this trade will still look good in the next 6-12 month timeframe?

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