By Vicki Schmelzer

NEW YORK (MNI) - With volatility on the decline in recent sessions, currencies have been largely rangebound, frustrating market players who make their living on wider price swings, analysts said.

If vols stay low, global investors will be inclined to enter into "carry trade" positions, if they have not already done so.

However unlike pre-crisis positions, where the carry trade was often a "short-term punt," this time, investors may view the trade as a longer-term investment, they said.

"Realized trading vols has not been so low for many years," said Sebastien Galy, currency strategist at BNP Paribas.

For example, three-month implied vols in the euro have slipped from a 25-plus high at the peak of the subprime crisis to levels around 10.68 currently.

In the case of Aussie-yen, three-month vols have slipped from "over 54" during the financial crisis to levels around 17.63 now, he said.

Pre-crisis three-month low vols were 8.77 for the euro and 11.10 for Aussie-yen, Galy noted.

"As volatility goes down," the FX market tends to move toward a "classic carry trade environment," he said.

In the past, short-term players would buy a pair such as euro-yen or sterling-yen, and fund the position in the short-term money markets and leave the FX element of the trade unhedged to maximize profits.

This time, global investors will likely look further out the yield curve in choosing the high yield component of the trade, and because of term, may hedge a larger portion of the trade, he said.

Global investors currently have a tough choice deciding between "the ones (currency pairs) which will stay where they are and those which will start to trend," Galy said.

The yen has been mentioned recently as the currency to short in the carry trade, with traders pointing to already low Japanese government bond yields and the prospects for additional easing measures from the Bank of Japan.

Also, Japanese investor outflows, at the start of the new fiscal year which begins April 1, may trigger further yen weakness, they said.

Marshall Gittler, Chief Strategist International at Deutsche Bank Private Wealth Management, looked for dollar-yen to firm going forward, "as markets start to discount a stronger-than-expected recovery in the U.S. and a rise in interest rates outside of Japan."

In addition, the market has begun to speculate that the BOJ may soon move to an easier monetary policy, "which would be in sharp contrast to the tightening going on in the rest of the world," he said.

While Gittler did not look for the BOJ to shift its stance, he stressed that speculation about Japanese monetary policy could nevertheless affect the yen rate.

"We recommend that investors funding their positions with dollars or Swiss franc switch their funding into yen," he said.

Deutsche Private Wealth has a three-month forecast of Y100 and a twelve-month forecast of Y105 for dollar-yen.

The "carry trade" of 2010 is likely to look different from carry trades of prior years, given that major currencies are less likely to be one leg of the trade, analysts said.

"I just don't get the sense that the major pairs hold a lot of interest now," said Michael Woolfolk, senior currency strategist at Bank of New York Mellon.

The euro has been shunned out of concern about Greece and the other peripherals debt woes.

Similarly, cable has been weighed by fears of a "hung parliament" ahead of the upcoming general election, yet to be announced.

"With that type of risk, you don't want to be wed to a euro long position or a sterling long position," Woolfolk said.

In selecting the right currency pair, "the market is trying to pick the dog with the least fleas," he said.

Carry trades have become popular, with global investors once again looking favorably at including emerging market currencies as one leg of the position.

"Investors have no qualms about investing in emerging markets," Woolfolk said, "The European majors are off the radar screen and the dollar block (U.S. dollar, Aussie dollar, Canadian dollar) is back in favor."

Thursday's trading action, in the wake of the release of January U.S. trade data, had all the earmarks of carry trade positioning.

The dollar and the yen rose on paring back of risk trades in response to the data, which showed that U.S. imports had declined sharply on the month, suggesting less inventory demand and therefore less chance of recovery.

The greenback and yen later slipped again as risk positions were put back on.

"When you start to see the dollar and the yen move in the same direction at the same time, it is typically the result of position adjustments in the carry trade," Woolfolk noted.

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[TOPICS: M$$FX$,M$U$$$,M$X$$$]