When looking at alternatives, Nomura analysts Jennifer Han, Saeed Amen and Geoffrey Kendrick say the key question for investors is how to calculate which combination of low-yielding currencies to use. The analysts recommend using a number of strategies including deposit rates, differentials in swap rates and macro-economic factors to arrive at the optimal model. Their model uses a basket of the Swiss franc, dollar, yen and the euro, interchanging short/long positions over time. The model has given a return of 3.85% annually since 1990, they say.
“We find that using a combination of deposit rates, the shift in rate differentials and macro-based factors can be an effective way of picking various funding currencies,” the analysts say.
The model's deposit-rate strategy takes a long position in the three highest-yielding currencies from the dollar, yen, euro and franc, funding the purchase with the lowest-yielding currency and switching among the funding currencies on a monthly basis, depending on which has the lowest policy rate. This basket provides better returns than a dollar- or yen-only funded basket, they say.
With the rate differential strategy, the analysts look at the momentum of swap rate differentials and accumulate the signals to give a weighted basket of buying currencies that have rising yields, selling those with falling yields. The performance of this strategy, again, is better than choosing a single funding currency, they say.
Finally, Nomura looks at two macro factors, one using GDP as an indicator for future interest-rate movements and the other using a growth surprise index, or GIP, to pre-empt turns in data surprises. The analysts use initial GDP estimates, because final data can be delayed by three months, rendering the model less effective. With GIP, the strategy will give a short signal if the data comes in better than expectations and a long signal should the data surprise/growth surprise index decline.
Nomura's so-called optimal model, combining the three strategies above, currently favours a weighted basket of the franc (50%) followed by the dollar (25%), yen (17%) and euro (8%).