If you’re planning to invest in offshore assets, then the decision whether to hedge your currency exposure is an important one as movements in the Australian dollar can either erode or add value to your investment.
A rise in the Australian dollar diminishes returns when assets are converted into the local currency. Any fall helps investors as it magnifies gains when assets are converted into local dollars. So if, for example, the Australian dollar rose by 10 per cent, the value of your offshore investments would fall by 10 per cent.
So is it worth investing in offshore equites, global property or other assets?
Analysts say it is, as you should diversify your portfolio into different asset classes and into different geographic regions. But it is worth considering whether you should hedge your currency exposure to minimise risk stemming from movements in the currency.
Most experts advise people who invest for the shorter term to take out hedging if they think the Australian dollar will rise, as a sharp rise in the dollar can generate a big drop in earnings from international assets.
Hedging can also play a part if you are a conservative investor and simply don’t want to expose yourself to any currency volatility.
There has been an increasing trend for fund managers to launch hedged options on unhedged international equity funds, putting the onus on the investor or their advisor to make the decision on hedging.
A common route being taken by investors is to take a bet each way on the currency and buy into both hedged and unhedged managed international share funds. The more conservative you are, the higher the ratio of hedged investments versus unhedged investments you would adopt to minimise currency exposure.
But there is a cost to hedging and you can expect to add an additional fee of 5 to 10 basis points to the cost of an unhedged managed fund version. But like any insurance, that’s a small cost compared to returns you could be protecting.
Over the long run, economists say that currency risks even out – what goes up, must come down – and currency volatility is smoothed out.
As a result, there could be less reason to hedge currency movements over the long term as compared to a short-term investment. You could be cutting yourself off from the benefits if the Australian dollar corrects below $US1.00, which many analysts forecast it will eventually do.
So, the decision to hedge depends not only on your risk profile, but the term of your investment.
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