If you are a global macro trader you trade anything and everything as long as you can find an exploitable edge. The majority of your trades are across asset classes trading stocks, bonds, commodities, and currencies. You are looking for uncorrelated returns from multiple asset classes.
You don’t just trade different asset classes but even different strategies within an asset class. If you trade bonds you will have some directional trades on, some spread trades, and some arbitrage trades. All of his is to further diversify your returns stream. You can do the same types of things in every asset class which makes your streams of returns very uncorrelated.
Macro traders have one strategy that most traders never use and that is the currency markets. Long the playground of only banks, currency trading is now available to the masses and is getting better and better. One of the best strategies in currency trading is that of the carry trade.
To make money in the carry trade you go long a high yielding currency and go short a low yielding currency. By doing this you are able to earn the interest rate differential which is simply the difference between the two currencies interest rates. You can also of course earn money by being right on the trade and the direction.
Using leverage you can really juice your returns in the carry trade. For instance if you are earning a three percent yield from the differential then you can earn thirty by being levered up ten times. If you lever up twenty times you will earn sixty percent. While these gains sound great they do come with great risk. You knew this couldn’t be that easy.
No, it is not that easy. If volatility picks up and the carry trade loses favor then the carry will not be enough to make up for the huge loss in capital on the directional side of the trade. If you use too much leverage you will go kaboom and lose all your money.
You can use several different methods to estimate volatility. You can use the standard volatility index for the SP500. While it is designed and used primarily for equities it is a good estimate of volatility for most asset classes. Now days you can just use a currency volatility index like those from JP Morgan or many of the other investment banks.
If you are global macro trader trading the currency carry trade then you need to be paying attention to volatility or eventually you will lose a lot of money. By focusing on the risk you will be in a far better position for the rewards.
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