Return of the carry trade in Argentina: a financial maneuver that brings 50% profit in dollars | Economics and business

If you are an Argentine and can save, you will almost certainly do so in dollars. But imagine the government telling you it will depreciate the peso at a rate of 2% per month. But if you buy pesos, you will pay 4% to 5% interest on them every month. Your financial advisor will then recommend a very simple transaction: exchange dollars for pesos, buy bonds with those pesos or put them in a fixed interest account and buy dollars again as soon as the difference is received at the end of the month.

The difference between the peso depreciation promised by the government and the interest rate you receive will determine your profit margin. It sounds like a tongue twister, but it’s a first and last name operation: in Argentina it’s called the “financial bicycle”; traders prefer to call this a “carry trade.” It suggests that investors buy riskier currencies in the hope of earning enough interest to more than cover exchange rate losses.

The carry trade was a classic investment model in Argentine dictatorship 1970s, revived in 2016 with Mauricio Macri and now again with a far-right leader Javier Miley. Argentines who “rode” bicycles earned up to 50% profit in dollars in 10 months, which was another miracle that arose after the Argentine macroeconomic crisis.

In order for the bicycle wheel to turn, a number of conditions must be contradictory: a combination of high interest rates on the local currency and evidence of its weakness against the backdrop of an appreciation of that currency against the dollar, which implies strength. Because Argentina tends to be an exception to the macroeconomic rule, speculators invariably make high-risk profits there. Now the conditions are ideal. In an effort to control inflationMilea’s government set peso devaluation at 2% per month, two points below average inflation. And because it needs to clear the market of excess pesos, it offers rates above inflation, up to 5%, to exchange them for dollars. Add to this the currency ceiling: that is, the purchase and sale of foreign currency is controlled by the state, which prevents it from floating freely. The scenario ends with capital laundering, which brought $12 billion to the market, which went to banks and strengthened international reserves.

Because investors are confident that Miley will defend the reverse exchange rate at all costs and will not back down from his war on inflation, they are encouraged to trade for faster and more profitable returns than, for example, investing in capital goods such as industrial equipment. This has been going on since January and for now the wheels are still turning in favor of high risk investors. The implications for the real economy are clear.

The financial cycle is tempting, but it is also extremely risky. All that is required is a devaluation of the dollar so that the difference between the initial investment in pesos and the redemption of dollars disappears. This happened in 2018, when investors who had purchased peso bonds lost confidence in the Macri government and left the country en masse. The central bank went so far as to sell nearly $1.5 billion of its reserves in one day to hold down the value of the currency, but it was not enough. In April, when the crisis began, a dollar could be bought for 20 pesos; two months later, the exchange rate had already exceeded 30 pesos to the dollar. Investors are clear that the conditions that allow them to profit from the carry trade are short-lived because they cannot be sustained for the economy to function.

Is Miley’s economic model, based on a lagging dollar and high interest rates, running out of steam? “The question has been asked, but so far only among consulting firms,” says the operator, who prefers not to give his name. “The question is how long can the government sustain a 2% monthly devaluation with inflation hovering around 4% without the exchange rate underperformance becoming unsustainable. Moreover, will this stabilization process find a way to avoid devaluation in order to remove the exchange rate trap, which involves eliminating the gap between the dollar rates set by the Central Bank and the “financial” rates that float without government intervention? he explains.

If doubts are growing, then why are operations continuing? Well, because huge profits have been made in the last 10 months and what matters is the balance sheet at the end of the process. So who has the most to lose? Those who entered the system late, as is the case with those who remained at the bottom Ponzi-type financial pyramids. “There is a saying among investors that flow (induced trading) kills fundamentals,” explains the source. “We could say that Argentina is worth a lot in dollars because of the lagging exchange rate, but if the government continues to intervene with reserves to keep financial asset prices down, as well as money from laundering coming in, we could fall further behind. The game is about getting the timing right. If you are stuck in peso debt and there is a devaluation, you will suffer big losses,” he explains.

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