My super and investment portfolio is heavily exposed to unhedged US assets. While their performance has been really strong for the last few years, they have taken a mighty fall since the Covid-19 pandemic hit. I'm confident that the market will recover eventually, and I am a long-term self-investor. I notice that the US/Australian exchange rate is at near record lows so I was wondering whether a professional adviser thought this would be a good time to hedge my US portfolio? Should I also be putting more into that market at these depressed levels (investments and exchange rates)?
Scott in Hawthorn, Vic
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Hi Scott, thanks for your questions.
Firstly, I must say congratulations, you seem to have a solid grasp of some of the key investment fundamentals in that; markets will eventually recover, and investing is a long-term proposition!
As you are no doubt aware, the main aim of hedging one’s investment portfolio is to provide you the investor with exposure to the underlying performance of that investment, without the unnecessary movements created by currency fluctuations.
To determine whether you should hedge your US portfolio, or remain unhedged, really is dependent on the level of risk that you are comfortable with, factoring in of course, your investment time horizon, and any specific goals or objectives that you may have either for the short term, and/or for the long term.
As you have noted, with the AUD near record lows against the USD (with an exchange rate recently of a little over US60c), which has not really been seen since the GFC back in 2008, such a situation may very well present the right time to apply a hedge strategy to your US portfolio. It does however depend as I said, on your individual circumstances though.
If you were say looking to retire in the near future, and would likely be spending some of your investments in AUD, then hedging part of your US portfolio against currency risk, would likely bring you a modicum of comfort. Typically, one can access hedged investments by purchasing exchange traded funds (ETFs) or managed funds, that may have some form of currency protection built into their product features/design.
If on the other hand, retirement is way off in the distance for you, then you may remain comfortable with continuing your allocation to US equities and accepting the short term currency volatility of unhedged investments, knowing as you say, that “the market will recover eventually.”
The other factor to be mindful of here of course, is costs!
Costs are important because with hedging currencies, this typically takes the form of a separate transaction, and if Murphy’s Law is anything to go by, it would be that the cost of hedging against currencies would usually be cheapest when you need it the least, versus, being more expensive when you need it the most.
Over the long term though, net returns on hedged portfolios will normally be lower than the returns on an unhedged portfolio, simply because of the additional costs, with those investors that have longer investment horizons, than others, seeing currency fluctuations as an acceptable risk, knowing that their ‘time in the market’ will see these currency changes smoothing out over that longer period.
At all times though, currency hedging should primarily be viewed as a risk mitigation strategy, rather than a strategy driven to increase a portfolio’s performance, as it is just too difficult trying to predict which way a currency will move.
As for investing more when the market is depressed, I do see value in applying such an approach, as you will be taking advantage of buying in when investment prices are low, and then holding so that you gain the upside once the market rebounds more positively in the future, remembering of course to do so with an investment amount/s that you are not only comfortable with, but that you could potentially afford to lose.
When it’s all said and done, whatever you decide to do should align with your specific goals, your comfort level around risk, be acceptable from a cost perspective, and provide you with an investment portfolio that is appropriately diversified.
By doing this and allowing for rebalancing to manage being overweight or underweight a particular asset class, this should help with reducing the overall risk to your investment portfolio.
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