Australian Dollar Rises as Treasury Decline Spurs Carry Trades

The Australian dollar rose to the strongest in almost two weeks as a decline in U.S. Treasuries encouraged traders to buy higher-yielding assets with money borrowed in Japan. Government bonds fell.

The currency advanced to a six-week high versus the yen as investors increased positions in so-called carry trades. Treasury yields gained yesterday after demand at a U.S. government sale of two-year notes was less than expected, suggesting investors see less need for safety as bank borrowing costs fall.

The Australian dollar advanced for the second day to 87.58 U.S. cents as of 4:09 p.m. in Sydney from 87.25 cents late in Asian trading yesterday. It touched 87.60 cents, the highest since Dec. 14. The currency gained for a fifth day to 100.06 yen and reached 100.11 yen, the strongest since Nov. 15.

Currency trading volumes are likely to be below average today because many traders will be taking a vacation between Christmas and New Year's Day, Pontikis said.

Australia's three-month bank bill rate was at 7.25 percent compared to 7.30 percent a week ago, suggesting banks are becoming more willing to lend to each other. The rate is still above the 6.67 percent average for the past year.

In carry trades, investors borrow funds in countries with lower lending rates, such as Japan's 0.5 percent benchmark, using the cash to buy fixed-income assets in nations that offer higher returns.

Australia's dollar is popular for the strategy because the country's key interest rate is 6.75 percent, an 11-year high. That's helped the currency gain 6.5 percent against the yen and 11 percent versus the U.S. dollar this year.

Carry trades are considered risky because currency fluctuations can erase the profit earned on the spread between the two rates of interest.

The Australian dollar has weakened 4.8 percent against Japan's currency in the second half of 2007 as investors shunned carry trades. Appetite for the strategy waned as gridlock in credit markets caused global financial institutions to report losses of more than $80 billion on securities linked to U.S. subprime mortgages.

Australian Dollar Rises as Treasury Decline Spurs Carry Trades

12/27/2007 9:53:14 AM