Major investors expected to see “Interest trade“Across emerging markets, we will see further growth in 2026, after a successful year for this popular strategy.
The decline in foreign exchange market volatility and the weakness of the US dollar contributed to creating a fertile environment for this strategy, as investors borrow in low-yielding currencies to buy higher-yielding currencies. One of the Bloomberg indicators for this strategy achieved a return of about 17% this year, which is the largest gain since 2009.
A large number of asset managers and banks, from Vanguard Group to Invesco, and from Goldman Sachs Group to Bank of America, expected the gap in interest rates between developed and emerging markets to continue over the next year, with expectations that the Federal Reserve and most central banks in rich countries will keep borrowing costs low. In theory, this situation will continue to put pressure on the US dollar, which lost more than 7% in 2025.
“Interest trading continues to provide value, especially in high-yielding countries like Brazil, Colombia and some select African markets,” said Jorki Urquita, co-head of emerging markets debt at Neuberger Berman. But after this year’s performance, the opportunities have become more selective.
Attractive returns for interest trading
This year, investors enjoyed a wide choice of attractive interest trades, marked by strong gains in emerging market stocks, bonds and currencies. Countries such as Brazil and Colombia, where benchmark interest rates remain high, saw their currencies rise more than 13% against the dollar.
The path of the US economy is a decisive factor in determining the continuation of this performance, and investors expect, in the ideal scenario, moderate growth that encourages the Federal Reserve to continue easing monetary policy, which reduces the attractiveness of the dollar against other currencies.
A severe economic recession could upset this balance due to greater risk aversion, while stronger-than-expected economic growth could herald the risk of raising interest rates.
“With the US dollar weak, interest trading is expected to remain a source of profit,” said Wim Vandenhoek, co-head of emerging markets debt at Invesco.
Vandenhoek expected an increase in the value of the Brazilian real, the Turkish lira, and the South African rand, in addition to other currencies.
In a podcast broadcast earlier this month, Brian Dunn, Head of Foreign Exchange Options Trading in the Americas at Goldman Sachs, highlighted the attractiveness of selling the dollar against the real, the rand, and the Mexican peso, and a basket of equal weights from this deal has achieved a return of about 20% since the beginning of the year.
Invesco is selling the US dollar against the rand, as well as the euro against the Hungarian forint, a deal that has returned about 11% so far this year including interest rate differentials. In contrast, Bank of America prefers to buy the real against the Colombian peso, a deal based on relative interest rate differences, and has achieved a return of more than 2%.
Limited exchange rate fluctuations
Investors also evaluate whether exchange rate fluctuations will remain relatively limited, an important element in interest rate spread speculation, as an unfavorable move in a currency can quickly erase gains made in months.
Currently, expectations for sharp volatility remain low, with one of JPMorgan’s indicators of emerging market currency volatility over the next six months trading near a 5-year low. Ironically, this may worry market participants who fear a quick recovery will be delayed.
“Volatility is very low in many markets,” said Francesca Fornasari, head of currency solutions at asset manager Insight Investment. “That’s what worries me, is that this optimism has somehow been priced into prices.”
The severity of market turmoil has decreased
Currency strategists at Bank of America, led by Adarsh Sinha, pointed to a range of factors – including the US midterm elections and divergent interest rate policies among central banks – that could push currency volatility higher in the coming months.
However, the market turmoil caused by Trump’s tariff announcement in April this year has subsided and is expected to remain under control until 2026, according to Vanguard, the world’s second-largest asset manager.
Roger Hallam, global head of the company’s interest rates department, ruled out the occurrence of sharp fluctuations associated with policy instability or recession risks, adding that this usually creates a suitable environment for emerging market currencies.
