Safe haven currencies

Updated: Feb 15

Safe haven currencies, also known as strong currencies or hard currencies, are currencies that are expected to increase or at least retain their value during times of market and economic turbulence. A safe haven investment diversifies an investor’s portfolio and is beneficial in times of market volatility. When there’s a lot of uncertainty in the world, there is usually a “flight to safety” to one or all of these currencies and other safe haven financial assets. The US dollar, along with the Japanese yen and the Swiss franc are considered safe haven currencies.

Other safe haven assets include: gold, T-bills (US Treasury bills) and Defensive stocks.

A Treasury Bill (T-Bill) is a short-term U.S. government debt obligation backed by the Treasury Department with a maturity of one year or less. These securities are widely regarded as low-risk and secure investments.

Examples of defensive stocks include utility, healthcare, biotechnology, and consumer goods companies. Regardless of the state of the market, consumers are still going to purchase food, health products, and basic home supplies. Therefore, companies operating in the defensive sector will typically retain their values during times of uncertainty, as investors increase their demand for these shares.

What determines a currency’s safe haven status?

The global financial crisis of 2007-09 has renewed the public attention on safe haven currencies. As widely noted by observers, one paradoxical aspect of this crisis was the appreciation of the US dollar exactly at the time in which the US was exporting a once-in-a-generation financial crisis to the rest of the world.

Maurizio Michael Habib and Livio Stracca have analyzed a large panel of 52 currencies (51 bilateral exchange rates) in advanced and emerging countries over 23 years (1986-2009) of data. To measure the global risk aversion they used 3 indicators: 1. The VIX index of the CBOE (Chicago Board Options Exchange) measuring the implied volatility of S&P 500 (Standard & Poor 500) index options; 2. Risk Aversion Indicator developed by the Merill Lynch bank and 3. The Global Index of Financial Turbolence developed by the ECB.

The control variables have been divided in four main groups: (i) baseline variables which include interest rate spread, (ii) country risk variables, (iii) measures of size of the economy and size of the liquidity of financial markets and (iv) measures of financial opennes.

They found that only a few factors are consistently and robustly associated to a currency’s safe haven status.

A relatively well-established literature has emphasised that returns on low-interest rate currencies tend to be negatively correlated with global risk aversion, while high- yield currencies often crash exactly when global risk aversion is high (Brunnermeier et al. 2008). However, this empirical regularity is not necessarily the same as safe haven status; the two concepts overlap only insofar as, and to the extent which, traders pursue carry trade strategies.

The term carry trade refers to currency carry trade: investors borrow low-yielding currencies and invest in (or lend) high-yielding currencies. For example a trader borrows X ¥ at a cost near 0%, converts the X ¥ in TRY, deposits the TRY at a 18.5% rate (2021). It is thought to correlate with global financial and exchange rate stability but the carry trade (and unwinding of carry trade positions) is often blamed for rapid currency value collapse and appreciation.

The interest rate spread is consistently associated with a safe haven status in advanced countries, but not in emerging countries, probably reflecting the low liquidity and high transaction costs that are typically associated to currencies of emerging economies. This confirms the notion that the interest rate differential is not a fundamental driver of safe haven status, and it depends on carry trade strategies being pursued by traders and other economic agents. there is evidence of systematic deviations from the UIP which can be associated to carry trading for advanced countries only, while for emerging countries there is no such evidence.

The net foreign asset position/net international investiment position (NIIP or external wealth), is a country’s net credit/debit position on the rest of the world, determined by the difference of a country’s external assets: foreign assets owned by the domestic economy minus the country’s external liabilities: domestic assets owned by the rest of the world. The NIIP is a component of a nation’s total wealth and is an indicator of country risk and external vulnerability. A large positive NIIP is associated to a currency’s safe haven status. Countries with better external positions tend to have currencies that appriciated with rising global aversion indicating its status of safe havens.

So it is not the interest rate spread, as emphasised in the carry trade literature, the most consistent and robust predictor of safe haven status, but the net foreign asset position, which is an indicator of country risk and external vulnerability. The role of the interest rate spread stems mainly, in the literature and in reality, from the fact that traders tend to follow carry trade strategies.

One variable that is marginally significant is the country’s weight in world GDP. Currencies of bigger countries tend to appreciate, in relative terms, in times of high global risk aversion.

To a lesser extent, the absolute size of the stock market, an indicator of market size and financial development, is a factor. Having a large stock market in absolute terms does lead to safe haven status.

For advanced countries, in addition to the net financial asset position, the public debt to GDP ratio and some measures of financial development and the liquidity of the foreign exchange market are associated to safe haven behaviour.

Variables regarding a country’s financial openness such as the sum of external assets and liabilities as a share of GDP, the foreing loans and international debt to GDP ratios are practically insignificant in determining a currency’s safe haven status.

We can now reply to the question: what makes a currency a safe haven, hence with a lower return in good times and a higher return in periods of financial stress?

The best model to explain the determinants of safe haven status includes:

  1. Most notably, the NIIP position, an indicator of countries external vulnerability: countries with more net external debt depreciate in times of high global volatility while currencies of countries with large positive NIIP (creditor countires) tends to appreciate;

  2. The absolute size of the stock market, which probably captures the size of the financial market more generally, though with a lower degree of significance compared with the NIIP position;

  3. To some extent he public debt to GDP ratio, only for advanced countries;

  4. The short term interest rate spread vs. the US, again only for advanced countries reflecting the prevalence of carry trade strategies for currencies of some of these countries.

De Bock and de Carvalho Filho found that the Japanese yen and the Swiss franc are the only two currencies that on average appreciate against the U.S. dollar during risk-off episodes.


i) ECB Working Paper, No. 1288: Getting beyond carry trade: what makes a safe haven currency? By Maurizio Michael Habib and Livio Stracca;

ii) IMF Working Paper: The Curious Case of the Yen as a Safe Haven Currency: A Forensic Analysis by Dennis Botman, Irineu de Carvalho Filho and W. Raphael Lam;

iii) Swiss National Bank: Capital Flows and the Swiss Franc by Pinar Yesin.

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