JPMorgan says the carry trade that pummeled markets is only half done

The "carry trade" unwind that helped spark the severe drop in US stocks over the past few days likely isn't close to over, a JPMorgan strategist says.

 

Arindam Sandilya, the bank's cohead of global FX strategy, pointed to the recent sell-off in global equities, with major US stock indexes plunging over the past three trading days.

 

Market commentators say that's been partly stoked by a surprise 15-basis-point interest-rate hike in Japan, which triggered some investors to unwind a trade that's become popular in recent years. In this trade, investors borrow cheap yen and deploy the cash into higher-yielding assets elsewhere, like US stocks. As the yen strengthened and borrowing costs rose, investors taking advantage of the carry trade received margin calls, sparking a wave of selling around the world.

 

But Sandilya said that the unwind was probably only half done and that investors hoping for a quick rebound are likely to be disappointed.

 

"We think that the carry-trade unwind, at least within the speculative-investing community, is maybe somewhere between 50% to 60% complete," Sandilya said in an interview with Bloomberg on Tuesday. "So we are not done, by any stretch."

 

Sandilya said the Bank of Japan is likely to continue to slowly raise interest rates, given that borrowing costs in the nation are "nowhere near" calibrated to its real economy.

 

Policymakers in the country are eyeing inflation risks, according to the central bank's latest meeting minutes, which suggest more policy tightening is in store.

 

Meanwhile, citing technical studies JPMorgan conducted, Sandilya said investor portfolios don't tend to recover quickly after experiencing technical damage from a major move, as markets have displayed over the past several trading days.

 

"You don't tend to get V-shaped reversals back to where the moves started from. All you tend to get is—a good case outcome is stabilization in markets around current levels, maybe a shallow recovery at best," he said, adding that JPMorgan remained in a "defensive mindset."

 

US stocks were slightly higher on Tuesday as traders tried to claw back some of their losses from Monday's session, which marked the worst day for stocks in two years.