Uncovered interest rate parity
Definition · Level 7 · Futures, rates & macro
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Theory that a higher-yielding currency should depreciate by about the rate gap, so unhedged returns equalize across currencies. In practice it often fails — the reason carry trades have tended to pay on average.
Example
USD 4.5% vs JPY 0.5%: theory says USD/JPY falls ~4% a year; carry traders bet it won’t.
Where Tradecraft teaches it
Level 7 · Futures, rates & macro, in the lesson “FX: quotes, pips & forwards”: Read a currency pair, count pips, size lots, price a forward and understand carry and the dollar.
Related terms
- Base currencyThe first currency in an FX pair, the one being priced.
- Carry tradeBorrowing in a low-yielding currency to hold a high-yielding one and collect the rate difference; profitable while FX is calm, vulnerable to sudden…
- Covered interest parityNo-arbitrage link between spot, forward and interest rates: forward = spot × (1 + rquote·t) ÷ (1 + rbase·t).
- Currency pairTwo currencies quoted against each other as BASE/QUOTE: the price is how many units of the second buy one unit of the first.
- DXYUS Dollar Index: the dollar against a basket of six currencies (euro about 58%, then yen, pound, Canadian dollar, Swedish krona, Swiss franc).
- EUR/USDThe most traded pair in BIS surveys: the price of one euro in US dollars.