The Carry Trade’s Big Comeback: A Trader’s Guide to Yield in 2025
For many years during the last decade, a pall hung over one of forex’s oldest and most powerful strategies: the carry trade. In a world awash with zero or even negative interest rates from nearly every major central bank, the opportunity to profit from yield differentials had all but vanished. The “carry” was dead. But the seismic fight against inflation that began in 2022 has dramatically resurrected it.
We have now entered a new era of profound interest rate divergence. While some central banks have hiked rates to multi-decade highs, others have remained stubbornly dovish. This has created a fertile hunting ground for yield-seeking traders, making the carry trade not just viable again, but potentially one of the most profitable core strategies for 2025. Understanding how to identify, construct, and manage a carry trade in this new landscape is an essential skill for the modern forex trader.
What is the Carry Trade, and Why Does it Work?
At its core, the carry trade is elegantly simple. It involves two actions:
- Selling (or borrowing) a currency with a very low interest rate.
- Simultaneously buying (or investing in) a currency with a much higher interest rate.
The trader aims to profit in two ways. The primary and most reliable source of profit is the positive carry, also known as the “rollover” or “swap.” Every day at 5 PM New York time, forex brokers make an interest rate adjustment to any open positions. If you are long a high-interest-rate currency and short a low-interest-rate one, your broker will pay you a small amount of interest for holding that position overnight. While this daily payment may seem small, over weeks and months, it can accumulate into a significant, steady profit stream.
The second source of profit is potential capital appreciation. Often, the same fundamental factors that lead to a high interest rate (e.g., strong economic growth, hawkish central bank policy) also cause the currency itself to strengthen. If the high-yield currency you bought appreciates against the low-yield currency you sold, you profit from both the positive carry and the directional price movement.
The Perfect Environment: Why 2025 is a Carry Trader’s Dream
The ideal environment for a carry trade is one of low market volatility and clear, divergent central bank policies. This is precisely the landscape that is taking shape. While the major inflation battles have been fought, central banks are now embarking on very different paths.
- The “Funders”: The Low-Yeld Currencies: The undisputed king of the funding currencies is the Japanese Yen (JPY). Even after its historic move away from negative rates, the Bank of Japan’s policy rate remains the lowest in the developed world, with little prospect of aggressive hikes. The Swiss Franc (CHF) is another traditional funder. The Swiss National Bank (SNB) is often among the first to cut rates to prevent the franc from becoming too strong, ensuring its yield remains relatively low.
- The “Targets”: The High-Yield Currencies: This is where the landscape has become exciting. The Mexican Peso (MXN) and Brazilian Real (BRL) have become carry trade superstars, with central banks that hiked rates aggressively to double-digit levels to combat inflation. In the G10 space, currencies like the US Dollar (USD) and the British Pound (GBP), while starting to cut rates, are doing so from a much higher level than Japan, still offering a substantial yield advantage. Even the Australian (AUD) and New Zealand (NZD) dollars offer a significant pickup over the yen.
This creates a menu of potential carry trades, such as long MXN/JPY, long BRL/JPY, long USD/JPY, or even long GBP/CHF.
Constructing and Managing Your Carry Trade: A Step-by-Step Guide
A carry trade is not a short-term scalp; it is a longer-term position trade that requires patience and a specific risk management approach.
Step 1: Identify the Differential
Your first step is to do the fundamental research. Create a table of the current policy rates for all the major and select emerging market central banks. Look for the largest differentials. Your broker’s platform will also show the daily swap rate (positive or negative) for holding a long or short position on any given pair, which is the most practical data point. Identify pairs with a large positive daily swap for holding a long position.
Step 2: Analyze the Chart for Stability and Trend
The biggest risk to a carry trade is not that the interest differential will shrink, but that the exchange rate will move sharply against you, wiping out months of collected carry in a matter of days. You must avoid buying a high-yield currency that is in a clear, precipitous downtrend.
The ideal chart for a carry trade is one that is either in a stable, clear uptrend or, at a minimum, is trading sideways in a well-defined range. Use long-term charts like the daily and weekly to assess this. A pair that is trending upwards gives you the potential for both capital appreciation and positive carry—the perfect combination. A ranging market allows you to collect the carry while the exchange rate risk is relatively contained.
Step 3: Entry and Stop-Loss Strategy
Do not chase a pair that has already run up thousands of pips. Just like any other strategy, you need a low-risk entry point. Wait for a pullback to a key support level on the daily or weekly chart—this could be a long-term moving average, a previous resistance level that should now act as support, or a major Fibonacci retracement level.
Your stop-loss is absolutely critical. It is your ultimate protection against a “risk-off” event that causes the trade to unravel. Place your stop-loss below the key support level you identified for your entry. It will likely be a wide stop, which is why your position size must be small. This is a long-term trade, and it needs room to breathe.
Step 4: The Art of Holding and Compounding
Once in the trade, your primary job is to hold on and let the positive carry accumulate. This requires psychological fortitude. There will be days or even weeks where the price moves against you slightly. As long as it remains above your key support level and the fundamental interest rate story is intact, you should aim to hold the position. The daily swap payments are your reward for this patience. This is a “set it and forget it” style of trading, but with a clearly defined emergency exit plan (your stop-loss).
The Achilles’ Heel: Risk-Off Sentiment
The one thing that can violently unwind carry trades is a sudden, sharp spike in global risk aversion. When a major negative event occurs (like a financial crisis or a geopolitical shock), investors dump high-yielding, “risky” assets and flee to the safety of funding currencies like the JPY and CHF. This causes pairs like MXN/JPY to plummet. This is why your stop-loss is non-negotiable and why a smaller position size is essential to weather the volatility without destroying your account.
Conclusion: The Return of the “Free Lunch”
For years, the carry trade was a forgotten strategy. Now, in the landscape of 2025, it has made a powerful comeback. It offers traders a unique way to generate a relatively stable income stream, provided they approach it with the right methodology. By identifying a large and stable interest rate differential, choosing a currency pair with a stable or appreciating chart, using a patient, long-term entry strategy, and applying disciplined risk management, you can harness the power of yield. It’s the closest thing forex has to a “free lunch,” but only if you respect the risks involved.
