In the Kaplan note, it mentions that “Generally, the interest rates of the pegged currency will Exceed the interest rates of the currency to which it is linked.” What is the reason for this?
I think I saw it somewhere that the Real Estate is classified as alternative investment and it could be under non-alternative investment as well. Does anyone know the reason for this?
Thank you!
Am just reading this chapter, maybe this could help for your first point:
CFA Vol. 3, p74: “If a country is following such an exchange rate policy [pegging], then the level of interest rates will depend on overall market confidence in the peg… if the markets see the peg policy as unsustainable, then investors will demand a substantial interest differential”
Thanks for sharing this! I guess there is always a interest differential between the two countries.
Hey, in most (all) cases, the pegging country is generally a weaker country. So market forces want to depreciate the pegged currency instead of the reference country. The pegged country’s central bank can do a few things to keep its currency high versus the reference, (one of those is having a higher interest rate).
This can be a good place to perform a carry trade (if they are pegged you should be able to borrow at reference country interest rate, convert to pegged currency, accept higher interest income, convert back to reference currency) but has substantial tail risk due to possible devaluation. As it was stated earlier, it seems the interest differential is an attempt by the market to account for this risk.
Thank you for the answers!! Makes sense now.