* Carry trading for mid- to long-term bonds

- Week in review: Flight-to-quality drove down yields

The Kospi experienced sharp corrections as the European Central Bank meeting held on Feb 4 failed to come up with rescue packages for debt-ridden EU countries such as Greece. Carry-demand, especially for short-term bonds, drove the bond market on widespread expectations that global financial uncertainties would make it difficult for Korea’s monetary authority to raise the key rate. As foreign investments and carry trading center on short-term bonds, the yield curve continues stiffening. Bond yields declined overall as short-term bond yields fell at a faster-than-expected pace and yields on benchmark bonds dropped below their usual trading range.

- Week ahead: Carry-trading opportunity in mid- to long-term bonds

Bond yields should slide on the flight to quality and the possibility of a policy rate freeze at the meeting of the Monetary Policy Committee (MPC) scheduled for February. This raises the question: Which bonds will present good investment opportunities? We argued previously that bond portfolios should shift to five-year or longer maturities towards end-February. Yields on short-term bonds plunged due to a surge in carry-trade demand because the Ministry of Strategy and Finance’s participation in the January MPC meeting convinced the market of a delay in the exit strategy. When assuming the yield curve remains unchanged for the next six months, the total return is expected as below.