Carry Trade Currencies and the World's Priciest Cities

We hope you enjoy today’s issue of The Daily Reckoning, dear reader. It’s costing us a fortune to produce; NZ$0.68 per minute (up to NZ$29.90 for 24 hours), to be exact.

That’s what the hotel charges for accessing the Internet. Seems kind of strange, really. They give us sausages and eggs for breakfast, along with a stellar selection of fresh-squeezed juices and pastries…then, when we’re overfed and slow to compute, they slam us for thirty bucks for a day worth of something Starbucks outlets around the world give away for nothing. And it’s limited data! How are we supposed to reckon when we can’t stream our favorite Justin Bieber songs straight into our headphones?

This remote island nation is not cheap, as we’re coming to find out. Just to give you an idea…

A 25 minute taxi-ride from the airport to our hotel set us back NZ$75. A modest lunch for two in the Viaduct area cost roughly $150 (rather spectacular wine included, we admit). And the ATMs on Ponsonby Street, Auckland’s hippest strip, sometimes nicknamed “Pon-snobby” Street, keep one in three of your banknotes per transaction…just for servicing fees.

O.K., so we’re kidding about that last one…but you get the picture.

Not that we’re complaining, Fellow Frugal Reckoner. (We would never do that!) It’s just interesting is all. Plus, money is our beat…both investing it and spending it. And here in New Zealand’s main metropolitan hub, the latter verb is very easy to accomplish.

The most recent Worldwide Cost of Living survey, published by the Economist Intelligence Unit (EIU) last month, ranked Auckland the 15th most expensive city to live in the world, up nine places from last year. Wellington, the tiny nation’s capital and home to not more than 400,000 souls on the southern tip of the North Island, tied for 17th…alongside London (and Brussels…and Adelaide). It jumped 16 places on the list.

In case you’re interested, Zurich became the most expensive city in the world to live this year, narrowly beating out last year’s top spot, Tokyo. The Swiss capital weighs in at 70% more costly than New York, which, way back in 47th place, tied with Chicago as America’s most expensive city. The Economist’s bi-annual report analyzes the cost of living in 140 cities in 93 countries worldwide, comparing prices of costs such as food, drink, clothing, renting a home, transport, schooling and domestic help. Here’s the top ten list:

1. Zurich, Switzerland
2. Tokyo, Japan
3. Geneva, Switzerland
4. Osaka Kobe, Japan
5. Oslo, Norway
6. Paris, France
7. Sydney, Australia
8. Melbourne, Australia
9. Singapore, Singapore
10. Frankfurt, Germany

Turns out your editor is heading to Melbourne AND Sydney in the next couple of weeks…you know, because things are just too cheap in Buenos Aires, even with inflation running (unofficially, i.e., actually) at 25%.

Editor of the EIU survey, Jon Copestake, highlighted the role currency swings had on the cost of living in a recent interview with Radio NZ. Stuff website was on the story:

“The main issue here is currency movement,” Mr. Copestake said. “It seems that the New Zealand dollar and the Australian dollar have become haven currencies. They’ve had a lot of investment in them over the last few years. And this is what’s really driven the rise up the rankings for New Zealand and Australian cities.

“People coming into New Zealand will see the relative cost of living much higher. I think in fact, in a sense, there’s a benefit to Wellington and Auckland people in that they might actually see the cost of imports going down because things will become relatively cheaper in other currencies, and they will actually find maybe the cost of traveling abroad slightly cheaper.”

With an annual GDP of roughly $130 billion (driven by a population of just four and a half million), New Zealand punches in roughly the same weight class as Peru (pop. 30 million) and Ukraine (pop. 45 million). Even so, as a popular “carry trade” partner, its currency is frequently among the most traded in the world. And, for the same reason, it is notoriously prone to violent swings.

A carry trade is essentially where a speculator sells short a lower-interest-bearing currency (like the Japanese Yen or the once mighty Greenback) and uses the proceeds to purchase a higher yielding currency (like the Kiwi of 2007-08, when the official cash rate was 8.25%, or the Aussie dollar of today, at a relatively solid rate of 4.25%).

It works like this (using an NZD/JPN currency pair example): Our trader borrows and sells short an amount in Japanese Yen, paying virtually no interest for the borrowed yen. He then uses the proceeds to buy high-yielding bonds denominated in New Zealand dollars. Thus, our hypothetical trader profits handsomely on the spread between what he pays to borrow yen and what he receives from the New Zealand bonds. [The trades work beautifully, as long as currency-exchange rates don’t move in the “wrong” direction].

Carry trades are big business. And, for a hotly-traded currency like the Kiwi dollar, it can mean big swings (in both directions) that have less to do with the underlying economic strength of the domestic economy and more to do with price distortions perpetrated by carry traders.

As such, it’s near impossible to predict which direction the Kiwi – sometimes described as a “cork at sea” currency – will go and, therefore, how the relative pricing power will impact the cost of living in some of the country’s prime locales.

Of course, there’s plenty else to consider when looking for a place to reside. Although price it is a big thing, it isn’t everything. If it were, we would recommend you move to the Iranian capital of Tehran, a city noted by the EIU survey as one of the cheapest places in the world to live. Judging by the deafening beat of war drums emanating from inside Beltway 495, it might well have been turned to glass by the time you get there…but that’s another tale for another day.

Moreover, there is something to be said about paying for peace of mind when you are in a foreign nation. Maybe New Zealand is overpriced right now. Maybe not. But it is calming to again be in a country where things work. Taxis, although expensive, take you more or less directly where you want to go. The place is clean. Impeccably so. Environmentally, the dramatic backdrop for the Lord of the Rings movies has few competitors on the planet. And you can still invest in a world class, Sauvignon Blanc/Pinot Noir-inspired hangover…just not quite as many of them as in, say, Buenos Aires. Then again, that’s probably not such a bad thing either.

Joel Bowman
for The Daily Reckoning

The Daily Reckoning