Carry trades return as Latin America FX volatility falls

Carry trades are flowing back into Latin American currencies as emerging-market FX volatility falls to its lowest level since January.

Latin America regains carry appeal

The renewed demand reflects a simple market equation: investors borrow in currencies with lower rates and buy those offering richer yields. Latin America stands out because its interest-rate levels remain higher than most developing-market peers, giving traders a larger income cushion.

That cushion matters only if exchange rates stay contained. On a common trader gauge known as the carry-to-risk ratio, Latin American currencies rank as the most attractive group across emerging markets, according to the market data cited in the source.

Colombian peso leads returns

The strongest returns have come from dollar-funded trades into Latin America. A position using borrowed dollars to buy the Colombian peso has gained 22% this year, while similar strategies targeting the Brazilian real and Argentine peso have risen 12.9% and 12.8%, respectively.

The contrast with other developing-market currencies is sharp. Trades tied to the Polish zloty, Indonesian rupiah and Thai baht have each declined by 5% or more, showing how regional rate advantages and currency resilience have separated Latin America from much of the broader emerging-market universe.

Chris Turner, global head for markets and regional head of research for the UK and central and eastern Europe at ING Bank NV in London, said the region has regained investor attention. “Latin American currencies are once again proving to be some of the top performers in the FX space,” he said.

Oil exporters shape the next test

The latest energy shock has added another layer to the trade. Many Latin American economies export oil, which can make them less exposed than energy-importing regions when crude prices rise after an escalation tied to Iran.

Turner linked that relative insulation to fresh carry demand. “Low foreign-exchange volatility is sending carry trade money into a region a little less exposed to the energy shock than EMEA and Asia,” he said, referring to Europe, the Middle East and Africa.

A JPMorgan Chase & Co. index of one-month implied volatility for emerging-market currencies fell on Thursday to its weakest reading since January. Global currency volatility had jumped after the Iran war began in late February, then moved lower as central banks worked to limit disorderly currency swings and trade tensions eased.

Lower volatility is the key mechanism behind the trade’s revival. When exchange rates move less violently, the income earned from higher-yielding currencies is less likely to be erased by sudden depreciation, which makes carry strategies more attractive to global money managers.

The path from here depends on whether calm currency markets last. If low volatility and high Latin American rate premiums hold, the region could keep drawing carry flows, supporting local currencies and encouraging banks and asset managers to keep allocating toward emerging-market FX.

If the Iran-related shock widens or global risk appetite weakens, the same trades could unwind quickly. Latin America may remain less exposed than EMEA and Asia to higher oil prices, but a broad volatility spike would still threaten the rate advantage by pushing investors back toward safer funding currencies.

The immediate test is whether central banks can keep currency moves orderly without draining the return investors came to capture. For the wider emerging-market sector, Latin America’s performance will help determine whether carry remains a selective regional trade or broadens into a larger risk-on rotation.