Covered Interest Rate Parity (CIP) is the no-arbitrage condition linking spot rates, forward rates, and interest rate differentials. It states that (1 + i_domestic) = (F/S) × (1 + i_foreign), where F is the forward rate and S is the spot rate. When CIP holds, borrowing in a low-yield currency and investing in a high-yield currency yields zero profit after hedging.

Uncovered Interest Rate Parity (UIP) is the riskier cousin: it predicts the high-yield currency will depreciate by exactly the interest differential, so carry trades earn zero expected excess return. In reality, UIP fails persistently — the forward premium puzzle — which is why carry trades have historically been profitable until they aren't.

CIP: arbitrage-free, holds tightly in liquid markets
UIP: fails empirically; high-yielders often appreciate short-term
Carry trade: borrow low-yield, invest high-yield, profit from UIP failure
Crash risk: carry unwind is violent and correlated across positions

Currency Pair	Spot	1Y Rate Diff	Forward
USD/JPY	150.00	5.0%	157.50
AUD/USD	0.6600	-4.0%	0.6336
USD/TRY	32.00	40.0%	44.80