Wall Street Journal co-authors Gregory Zuckerman, Jack Pitcher,
Vicky Ge Huang, and David Uberti reviewed the Aug. 5 cratering of the yen carry-trade and other leveraged markets, which contributed significantly to the sharp drop in stock markets around the world. The yen carry trade is the borrowing of yen—or any other currency—at super-low interest rates, and investing the borrowed funds to buy currencies or treasury bonds of other countries paying higher yields, an ancient idea whose bare-bones practice goes back to 14th-century Venice.
Zuckerman et al. point out in their opening: “They built over months: big bets on the Japanese yen. Complex cryptocurrency wagers. Investments in hot tech companies. Common to all trades were heavy doses of leverage, or borrowed money, which investors used to amplify expected gains.” Through leverage, windfall profits were realized; prices of investments were pushed higher. But, what follows leverage, is de-leveraging. Now the de-leveraging amplifies losses. Zuckerman reports that “changes in economic or financial conditions can force investors to sell one piece of their portfolios, such as U.S. or Japanese equity holdings [stocks], to deal with losses from another, such as leveraged bets on a weak yen.” Those who borrowed money then got margin calls—lenders demanding they put up more funds to cover their borrowings, lest their accounts be closed. There were forced liquidations.