In the context of international finance, a carry trade involves borrowing funds in a currency that has a low-interest rate and investing those funds in a currency with a higher interest rate. This strategy aims to capitalize on the interest rate differential between two currencies. However, it can lead to significant risks especially in volatile markets.
Consider an investor who borrows Japanese yen (JPY) at an interest rate of 0.5% and invests in Australian dollars (AUD) yielding an interest rate of 3.5%. If the exchange rate for JPY to AUD remains stable, what is the maximum benefit an investor can potentially receive from this carry trade?