July 25 (Bloomberg) -- South Africa's rand strengthened against the euro for a second week as interest rates near the highest in almost 5 1/2-years stoked demand for the currency in so-called carry trades.

The rand offered the fourth best carry-trade return against the euro of its 16 most-actively traded counterparts monitored by Bloomberg this past week. It also offered positive returns against the Swiss franc and the Japanese yen, often used to fund carry trades. The currency of Africa's biggest economy rallied to a two-month high against the euro on July 23.

``South Africa's high interest rates are helping the rand from two angles,'' said George Glynos, the managing director in Johannesburg of Econometrix Treasury Management, which advises clients on bond and foreign-exchange transactions. ``On the one hand they boost carry-trade purchases, but they also make it very expensive to speculate against the rand.''

The rand climbed 1.3 percent this past week to 11.8922 per euro by 4:53 p.m. in Johannesburg, from 12.0520 on July 18. It rallied to 11.7829 per euro on July 23, the strongest level since May 30. Against the dollar, the rand was little changed at 7.5875, from 7.6047 at the end of last week.

The rand has climbed 5.3 percent against the 15-member euro zone currency since June 12, when the central bank raised the benchmark interest rate by a half-point to 12 percent, the highest level since June 2003. Since the latest increase in borrowing costs, the currency has offered the best carry-trade return against the dollar, euro and yen.

Interest-Rate `Protection'

``The rand is outperforming other high-yielding currencies at the moment,'' said Robert Beange, an emerging-market currency strategist at JPMorgan Chase & Co. in London. ``High interest rates do offer it some protection.''

When carry-trade appetite picks up, traders borrow lower- yielding currencies such as the franc to buy higher-yielding assets, such as those denominated in rand. When carry trades decrease, investors sell the rand to repurchase so-called safe- haven assets, including the franc.

South Africa's interest rates compare with borrowing costs of 0.5 percent in Japan and 2.75 percent in Switzerland.

The South African Reserve Bank, led by Governor Tito Mboweni, increased the key rate 10 times since June 2006 to curb inflation that has exceeded its 3 percent to 6 percent target range for 14 straight months. Price growth quickened to an annual 10.9 percent in May, the fastest pace since November 2002.

Monetary policy will have to ``tighten at a global level,'' Mboweni said yesterday in an interview with CNBC Africa, adding that he didn't know the magnitude of the increases that would be required.

The rand is the worst performer of the 16 most-traded currencies tracked by Bloomberg this year, falling almost 10 percent versus the dollar and more than 16 percent against the euro.

South African government bonds gained for a second week, with the yield on the benchmark 13.5 percent security due September 2015 falling 20 basis points to 9.68 percent. Yields move inversely to bond prices.

To contact the reporter on this story: Garth Theunissen in Johannesburg gtheunissen@bloomberg.net

Last Updated: July 25, 2008 11:10 EDT