Carry trade bombs set to explode in Japan

Traders and bankers in Japan are worried that extremely complex derivative products underneath some of the Japanese 'carry trade' investing in the New Zealand dollar are set to implode, which would slash demand for New Zealand dollar bonds known as Uridashi bonds and therefore reduce demand for New Zealand dollars. There are NZ$6.4 billion worth of Uridashi and Eurokiwi bonds set to mature over the next 90 days. The Times has an interesting report on the demise of 'power reverse dual currency notes' which suggests big investment banks are set to take US$90 billion worth of losses. Here's the guts of the article below. The full article is available from the link above.

Traders in Tokyo have given warning that about $90 billion (£55billion) of complex foreign exchange products, sold mainly to Japanese households and institutions, are on the brink of falling "like a house of cards". A rescue effort by the product issuers - large Japanese, European and American investment banks - is expected to involve extensive hedging measures that will throw global currency markets into even deeper turmoil. The products, which are known as power reverse dual currency notes (PRDC), were sold to Japanese households as simple products offering higher yields than regular savings but the bonds were in reality hugely complex structures "with 15 moving parts and multiple points of pain", derivatives experts at RBS in Tokyo said. The products combine exposure to foreign exchange, interest rate differentials and domestic inflation and have formed a small but potent part of the so-called yen carry trade - the borrowing of yen to invest in currencies offering higher interest rates - a gambit thought to have financed huge amounts of global risk-taking in recent years. The PRDC's complexity disguised from the buyers the fact that they were taking on the same big foreign exchange risks as the regular carry trade but with additional exposure to global interest rate volatility.