Key facts
- Emerging market currencies backed by US dollar borrowing are at risk of a painful unwind.
- Dealers warn that a dollar reversal or a surprise rate hike could trigger this unwind.
- The EM FX carry trade has been a predominant strategy driven by low volatility and dollar weakness.
Traders who have invested in emerging market currencies using borrowed US dollars face a potential painful unwind if the dollar strengthens, foreign exchange dealers have warned. The emerging market FX carry trade has been a dominant strategy among hedge funds, asset managers and pension funds, largely driven by extremely low levels of volatility and a prolonged period of dollar weakness. A reversal in the dollar's fortunes, potentially triggered by a surprise interest rate hike or a general rally in the greenback, could force these positions to be unwound.