Explain the carry trade and its link with uncovered interest rate parity, and work out what it earns
The idea
A carry trade borrows a low-yield currency and invests the proceeds in a high-yield currency. It gains when the high-yield currency depreciates by less than the interest differential, the outcome uncovered interest parity says should not happen on average. Per unit borrowed, the funding-currency result is (1 + investment rate) × ending ÷ starting value of the investment currency, minus (1 + funding rate). The breakeven rate equals the forward rate from covered parity. Returns accrue steadily in calm markets but show negative skew and fat tails: in stress, funding currencies often act as safe havens and surge, erasing years of carry. The traps are ignoring the currency move and forgetting the interest owed.
In the app: 2 practice questions on this outcome, a narrated walkthrough with diagrams, spaced review that brings it back before you forget it.
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