Author Topic: What about the currency risk?  (Read 3647 times)

katthjul

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What about the currency risk?
« on: May 21, 2016, 06:30:50 AM »
I have read many threads from the perspective of an US investor about adding international assets. Arguments for includes diversification and not knowing the future (with obligatory mention of Japan), while arguments against usually includes currency risk and their domestic companies selling globally.

However I am in Sweden which is a small export-oriented market with its own currency. Following a global index means taking a large currency risk (mostly EUR and USD). On the other hand, only having domestic assets would ignore 99% av the global market.

I want to diversify globally, but how should I deal with the currency risk?

ender

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Re: What about the currency risk?
« Reply #1 on: May 21, 2016, 06:52:11 AM »
You don't think that having all your net worth tied up to the currency of a country with less than 10,000,000 population as a risk?

There are risks associated with all investment decisions (or indecisions).


Retire-Canada

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Re: What about the currency risk?
« Reply #2 on: May 21, 2016, 08:05:41 AM »
I'm in Canada so a slightly bigger country, but same issues.

My investments are:

- 50% US
- 30% CDN
- 20% other Int'l

The CDN dollar drop sharply over the last while and is now [slowly] recovering.

When the CDN dollar drops the value of most of my investments grow as if their returns were turbo boosted and when the CDN dollar rises my domestic investments tend to be growing strongly and my home economy is doing well....but my other investments drop by a corresponding amount.

There are pros and cons to this, but I'm not prepared to hold any more CDN investments than I already am. given the size of our economy I'm heavily home biased.

forummm

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Re: What about the currency risk?
« Reply #3 on: May 21, 2016, 08:50:52 AM »
I think it's a mistake to be home biased too much. Even for those of us in the US. I try to be 50 US 50 Intl which is approximately the global market cap.

MustacheAndaHalf

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Re: What about the currency risk?
« Reply #4 on: May 21, 2016, 11:22:51 AM »
katthjul - Look at the number of countries, and currencies, reflected in Vanguard Total World ETF ("VT").  Are you worried that the US dollar, Japanese yen, UK pound, and Euro will all do the same thing at once?  For a long time?  By spreading investment dollars over more countries, and more currencies, you're also spreading the risk.

katthjul

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Re: What about the currency risk?
« Reply #5 on: May 21, 2016, 11:34:16 AM »
You don't think that having all your net worth tied up to the currency of a country with less than 10,000,000 population as a risk?

Yes, I do. I was trying to illustrate why I must think about the currency risk.

My investments are:

- 50% US
- 30% CDN
- 20% other Int'l
Any specific reasons why you are favouring US over other countries? I would expect the non-CDN investment to follow the global market cap.

Radagast

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Re: What about the currency risk?
« Reply #6 on: May 21, 2016, 03:07:18 PM »
Some one should make a rule of thumb for how much home bias is appropriate. I will propose "home country percent of global market capital plus 10 percent" or "not less than percent of global market cap, but not more than percent of global market cap plus 25%".

nobodyspecial

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Re: What about the currency risk?
« Reply #7 on: May 21, 2016, 04:01:45 PM »
Because it's complicated by the particular country you are in.

If you are in eg. S. Korea, dominated by consumer electronics and industrial equipment, you don't get as much diversification by investing in the SP500 (similarly dominated by Apple/Google/Facebook....) than if you were Australian/Canadian and investing in the US
 

Playing with Fire UK

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Re: What about the currency risk?
« Reply #8 on: May 21, 2016, 04:39:37 PM »
It's not just the risk of your home country's economy doing badly, you also need to hedge against it doing well.

When local companies do better than the global average, your neighbours can spend more (either because they have a large home bias, or because they are employed by these companies), and the price you pay for goods and services will rise. This is most visible with house prices in a boom area, but applies to other services as well. If you are planning to stay in your home country, some home bias can be a rational choice.

Currency risk is only part of it. To reduce the currency risk you can buy most of your Global funds hedged to SEK (although you will have fewer choices).




maizeman

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Re: What about the currency risk?
« Reply #9 on: May 21, 2016, 06:43:59 PM »
katthjul - Look at the number of countries, and currencies, reflected in Vanguard Total World ETF ("VT").  Are you worried that the US dollar, Japanese yen, UK pound, and Euro will all do the same thing at once?  For a long time?  By spreading investment dollars over more countries, and more currencies, you're also spreading the risk.

The risk isn't that the dollar, yen, pound, and euro all move in the same direction at once by chance. The risk is that the Swedish krona significantly increases in value, which would make the investments denominated in every other other currency in the world worth less when used to support a person paying living expenses in krona.

MustacheAndaHalf

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Re: What about the currency risk?
« Reply #10 on: May 21, 2016, 07:22:19 PM »
Maybe one year Sweden will have an advantage with it's currency.  But I also mentioned "for a long time", meaning decades that people invest for retirement.  Over decades those currency speculations are likely to balance out.

There's certainly room for a home country bias.  That's fine, and up to the individual.  My main point is not to have 0% international regardless of which country you live in.

katthjul

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Re: What about the currency risk?
« Reply #11 on: May 22, 2016, 04:00:09 AM »
I think having home bias is a better choice over using currency-hedged funds. The latter has higher fees and more complexity which is usually a bad idea for the layman investor.

I found a paper from Vanguard about The role of home bias in global asset allocation decisions that explains various factors that can make a certain home bias reasonable. They actually does not include currency as a metric as "the hedging decision is a complex and lengthy one".
Quote
Although there may be many rational reasons for home bias, we present certain metrics that investors can use to help determine an appropriate allocation to foreign securities.

Le Barbu

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Re: What about the currency risk?
« Reply #12 on: May 22, 2016, 06:11:06 AM »
You don't think that having all your net worth tied up to the currency of a country with less than 10,000,000 population as a risk?

Yes, I do. I was trying to illustrate why I must think about the currency risk.

My investments are:

- 50% US
- 30% CDN
- 20% other Int'l
Any specific reasons why you are favouring US over other countries? I would expect the non-CDN investment to follow the global market cap.

Tack!

I am  Canadian also and my AA is 30% CDN, 45%US and 25% other Int'l

Main arguments for favouring US over other countries are: many US Co. are Int'l Co. (both physicaly and the way they trade). The most diversified economy in the world. Accounting regulations are tigth and well known. ETF are cheap (MER). Tax advantaged for canadians over other Int'l

If home investments were not tax advantaged so much, I would have a max of 20-25% in Canada wich is 4% of the world economy. Our diversification is crap (2/3 of the index is financials, energy and commodity)

You may keep 20-30% home and split the rest between US and other Int'l. Some choose to keep their bonds portion home for safety and rebalance once a year.

maizeman

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Re: What about the currency risk?
« Reply #13 on: May 22, 2016, 10:07:25 AM »
Maybe one year Sweden will have an advantage with it's currency.  But I also mentioned "for a long time", meaning decades that people invest for retirement.  Over decades those currency speculations are likely to balance out.

There's certainly room for a home country bias.  That's fine, and up to the individual.  My main point is not to have 0% international regardless of which country you live in.

I completely agree with your second paragraph. I'm not arguing with that point.

But it's not correct to say that currency exchange rates balance out over multi-decade time scales. Shifts in the focus of economies (for example the oil boom in Canada), government policy (interest rates), or geopolitical factors can all create major shifts over multi-decade time frames. A Swiss retiree who invested entirely in USD denominated assets in 1986 saw the value of those assets cut by 1/3 to 1/2 as a result changes in the exchange rate over a three decade retirement (it depends on where exactly in 1986 they invested). The S&P 500 returned 10.4%/year over that time frame before inflation. The long term exchange rate shift reduces this retiree's return on investment by 1.5-2.5%/year. To pick to other unrelated currencies, Chinese retiree who invested in Australian dollar denominated assets in 1986 saw the value of those assets approximately double as a result of changes in the exchange rate over a three decade retirement.

It is important to be conscious of the fact that, particularly for smaller economies, appreciation or depreciation of you own country's currency can have significant positive or negative effects on your overall return in retirement. I don't know what to do to address it, but the concern the OP brings up is a real one.

Seppia

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Re: What about the currency risk?
« Reply #14 on: May 22, 2016, 12:20:38 PM »
But it's not correct to say that currency exchange rates balance out over multi-decade time scales. Shifts in the focus of economies (for example the oil boom in Canada), government policy (interest rates), or geopolitical factors can all create major shifts over multi-decade time frames. A Swiss retiree who invested entirely in USD denominated assets in 1986 saw the value of those assets cut by 1/3 to 1/2 as a result changes in the exchange rate over a three decade retirement (it depends on where exactly in 1986 they invested). The S&P 500 returned 10.4%/year over that time frame before inflation. The long term exchange rate shift reduces this retiree's return on investment by 1.5-2.5%/year. To pick to other unrelated currencies, Chinese retiree who invested in Australian dollar denominated assets in 1986 saw the value of those assets approximately double as a result of changes in the exchange rate over a three decade retirement.

It is important to be conscious of the fact that, particularly for smaller economies, appreciation or depreciation of you own country's currency can have significant positive or negative effects on your overall return in retirement. I don't know what to do to address it, but the concern the OP brings up is a real one.
Great post.
That's the reason why I favor a slight home bias.

Retire-Canada

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Re: What about the currency risk?
« Reply #15 on: May 23, 2016, 08:29:35 AM »
Any specific reasons why you are favouring US over other countries? I would expect the non-CDN investment to follow the global market cap.

I just picked round numbers. Nothing overly deep going on here. I also understand the CDN and US economies much better than I do the rest of the world so it's easier to have confidence when investing large sums of money.

Ultimately investment plans only work if you are confident enough in them to follow them through thick and thin.

Panly

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Re: What about the currency risk?
« Reply #16 on: May 24, 2016, 07:12:57 AM »

if you want to retire in Sweden, then it makes sense that you have a decent portion of your retirement income in Swedisch currency.  However,  I assume that there is an official pension/social security system that will provide the basics (from the moment that you're entitled to it) and I assume that your housing need would be covered in your retirement plan as well.


But, I think the currency related "home bias" risk lies in the opposite camp:   if the swedish Krona plummets,  the purchasing power of your present krona income goes down,  plus your investments in the local market might go down proportionately as well.   Just ask the people of Iceland what happens when a strong currency becomes a pariah.

hence, if my major income stream today is in swedish currency,   I would diversify towards the relatively weaker currencies of the moment,   eur and gbp. 


Worst case, the krona goes through the roof. solution:  your swedish pension will cover a lavish lifestyle in Spain or Portugal, the latter being the most tax efficient for the first ten years.   (Since it was mentioned: just ask the retirees on a Swiss pension over there!)   



 

   

Playing with Fire UK

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Re: What about the currency risk?
« Reply #17 on: May 24, 2016, 07:34:16 AM »
Worst case, the krona goes through the roof. solution:  your swedish pension will cover a lavish lifestyle in Spain or Portugal, the latter being the most tax efficient for the first ten years.   (Since it was mentioned: just ask the retirees on a Swiss pension over there!)   

I think this is a great option for people who would be happy to live abroad, but wouldn't work for everyone (e.g. family constraints, visa issues). The home bias and currency questions are different for people who wouldn't relocate.

The next month looks to be a good time to pick up some cheap GBP exposure, [markets go up as well as down].