Why the August 2024 Carry Trade Unwind Rattled Global Markets in Days

A currency carry trade is a simple idea that turns dangerous when many investors execute it at once. An investor borrows money in a low-interest-rate currency—say the Japanese yen—converts it to a higher-yielding currency like the US dollar, and invests the proceeds in overseas bonds or stocks. The interest rate gap between the two countries becomes profit. When conditions reverse, the mechanism works in reverse: thousands of traders race to unwind their positions simultaneously, sending shock waves through global markets.

The mechanics are straightforward, but the risks compound with leverage and speed. The August 2024 turbulence in global markets illustrated how quickly carry trades can destabilize financial systems when they unwind.

The basic structure: borrowing cheap to invest expensive

A carry trade profits from the interest rate differential between two countries. If the Bank of Japan holds rates near zero while the US Federal Reserve maintains rates above 3%, a trader can borrow yen at near zero cost, exchange those yen for dollars, and purchase US dollar-denominated assets yielding 3% or more. The profit is the spread: the income from the higher-yielding investment minus the cost of borrowing in the low-rate currency.

The scale of these trades has grown substantially. By the end of 2023, the notional value of outstanding foreign exchange swaps, forwards and currency swaps with the yen on one side reached $14.2 trillion, up 27% in yen terms since the end of 2021, according to the Bank for International Settlements. Banks’ yen-denominated loans to borrowers outside Japan rose from $228 billion in the second quarter of 2021 to $271 billion by the first quarter of 2024.

The trades often involve leverage. A trader does not need to have the full amount of borrowed capital; margin and derivatives allow them to control much larger positions with smaller upfront investments. This leverage magnifies both profits during favorable market conditions and losses when circumstances turn.

Carry trade scale before August 2024 unwind
The Bank for International Settlements estimated carry trade positions at approximately ¥40 trillion (roughly $250 billion) before the August 2024 unwinding, though total exposures including off-balance sheet derivatives likely exceeded this figure.

Why the yen became the carry trade’s favorite funding currency

Japan’s persistently low interest rates, maintained for decades, made yen borrowing extraordinarily cheap compared to other developed currencies. The Bank of Japan held rates near zero until July 31, 2024, when it raised its key interest rate to around 0.25%. Before that move, the gap between yen rates and US rates was wide—an enormous spread for investors to harvest.

The US Federal Reserve’s policy contrasted sharply. As of September 22, 2026, the effective federal funds rate stood at 3.88%, more than fifteen times the roughly 0.25% rate Japan set in July 2024. That gap, even if narrower than historical spreads, still provides incentive for carry trades. Investors could theoretically capture that difference simply by borrowing yen and holding dollars.

When the math breaks: the August 2024 unwinding

On July 31, 2024, the Bank of Japan raised rates, setting off a chain reaction. In early August, an unexpectedly weak US jobs report spooked investors. The combination of tighter monetary conditions in Japan and disappointing US economic data triggered massive losses for carry trade positions.

Leveraged positions built over months collapsed within days. Traders scrambled to exit by selling the assets they had bought with borrowed yen and buying yen back to repay their loans. Between July 31 and August 5, 2024, Japan’s Nikkei-225 stock average fell 20%, its worst decline since 1987. The Bank for International Settlements estimated carry trade positions at approximately 40 trillion yen, or roughly $250 billion, before the unwinding, though the true figure likely exceeded this figure due to off-balance sheet positions that regulators do not fully capture.

The speed of the move exposed a critical flaw in leverage: exit doors narrow precisely when everyone tries to leave simultaneously. As traders sold assets and bought yen, the yen strengthened further. A stronger yen made it more expensive to repay yen-denominated loans, pushing more traders toward the exit and accelerating the downward spiral.

A 1% currency move can wipe out a year of interest income in days, making leverage a critical vulnerability in carry trade strategies.

The leverage trap: small currency moves wipe out years of profit

The mathematics of leverage reveal why carry trades are fragile. If an investor captures a 1% annual interest rate spread by holding borrowed yen and dollar assets, a simple 1% depreciation of the dollar against the yen—a move that can occur in days—erases a full year of interest income. This arithmetic applies whether positions are held directly or through derivatives like currency swaps.

The Bank for International Settlements has documented how derivatives-based carry trades are difficult to trace because they leave minimal on-balance sheet borrowing trails. Trustee accounts managed by Japanese banks held approximately $2.7 trillion in assets in the first quarter of 2024, with an estimated $1.7 trillion supplied to foreign exchange derivatives markets. When these positions unwind, the deleveraging becomes self-reinforcing: margin calls force sales, which move prices further against remaining positions, which trigger more margin calls.

Why central bank decisions trigger sudden reversals

Carry trades depend on stable conditions: low interest rates in the borrowing currency and higher rates in the investment currency. Any shift in this equilibrium forces rapid reassessment. When the Bank of Japan hinted at raising rates, the math that made the trade profitable began to deteriorate. Each percentage point that yen rates move closer to dollar rates shrinks the profit spread; if rates converge, the trade’s entire rationale disappears.

Currency strength adds a second risk channel. A strengthening yen—which can result from rate increases or simply from investors repatriating funds—creates losses that no amount of interest income can offset. The faster the currency move, the more leveraged positions become insolvent before traders can exit. These conditions explain why carry trade unwinding episodes compress years’ worth of expected gains or losses into periods of days or weeks, and why regulators continue to monitor this market structure as a source of systemic risk.

Photo: Syced · CC0 · via Wikimedia Commons