{"id":71722,"date":"2015-04-29T05:11:16","date_gmt":"2015-04-29T09:11:16","guid":{"rendered":"http:\/\/countingpips.com\/?p=71722"},"modified":"2015-04-29T07:45:58","modified_gmt":"2015-04-29T11:45:58","slug":"currency-hedged-etfs-are-2015s-hottest-trend","status":"publish","type":"post","link":"https:\/\/www.investmacro.com\/forex\/2015\/04\/currency-hedged-etfs-are-2015s-hottest-trend\/","title":{"rendered":"Currency-Hedged ETFs Are 2015\u2019s Hottest Trend"},"content":{"rendered":"
April 29, 2015<\/div>
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By WallStreetDaily.com<\/u><\/a> \"Currency-Hedged<\/p>\n

By Alan Gula<\/a>, Chief Income Analyst <\/em><\/p>\n

Currency-hedged exchange-traded funds (ETFs) are perhaps the hottest trade in 2015.<\/p>\n

Since the beginning of the year, over $33 billion has flowed into these ETFs, which hold foreign equities but neutralize the foreign currency exposure.<\/p>\n

The WisdomTree Europe Hedged Equity ETF<\/strong> (HEDJ<\/a>), for instance, has experienced inflows of nearly $13 billion, the most of any ETF. And the Deutsche X-Trackers MSCI EAFE Hedged Equity ETF <\/strong>(DBEF<\/a>) isn\u2019t far behind with inflows of over $9 billion.<\/p>\n

Of course, the popularity of these funds has been driven by a strong U.S. dollar, which has gained over 20% in value against the euro over the past year.<\/p>

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However, the \u201chedged\u201d moniker can be very misleading. Here\u2019s why\u2026<\/p>\n

As a hypothetical example, let\u2019s say you have a portfolio full of ETFs<\/a>.<\/p>\n

Like many investors, you own the SPDR S&P 500 ETF<\/strong> (SPY<\/a>) for large-cap U.S. stock exposure. You understand the importance of asset class diversification, so you also own the popular Vanguard Total Bond Market ETF<\/strong> (BND<\/a>).<\/p>\n

For your foreign equity exposure, you own HEDJ, as well as the WisdomTree Japan Hedged Equity ETF<\/strong> (DXJ<\/a>).<\/p>\n

Are you diversified? No way!<\/p>\n

You\u2019re actually unhedged<\/em>. By that, I mean you\u2019re unprotected against a decline in the U.S. dollar because everything you own is effectively denominated in dollars.<\/p>\n

In fact, it\u2019s actually quite difficult to quantify your exact exposure to the dollar because of increased globalization.<\/p>\n

For example, the largest holding in DXJ is Toyota Motor (the shares that trade on the Tokyo Stock Exchange, not the American depositary receipt). Around three-quarters of Toyota\u2019s vehicle sales come from outside of Japan, so the company already benefits when the dollar strengthens and the Japanese yen weakens.<\/p>\n

To clearly see the risks, think of it this way: A falling dollar is bad for Toyota\u2019s competitive position, and <\/em>it results in losses on the currency derivatives held in DXJ.<\/p>\n

So, by \u201chedging\u201d against the yen falling, something that will already make Japanese exporters more competitive, what you\u2019ve really done is introduce additional risks and leverage.<\/p>\n

The Proof Is in the Research<\/h2>\n

Intuitively, this makes sense, and quantitative analysis supports these views.<\/p>\n

In a report titled The Case for Not <\/u>Hedging Foreign Equity Investments: A U.S. Investor\u2019s Perspective, <\/em>Catherine LeGraw notes, \u201cAs globalization has increased, simple currency hedging strategies have been less effective.\u201d<\/p>\n

LeGraw, a member of the asset allocation team at Grantham, Mayo, Van Otterloo (GMO), illustrates that hedging the foreign currency exposure of international equities in a global equity portfolio has actually increased<\/em> the total portfolio volatility over long-term time horizons.<\/p>\n

Indeed, foreign equities and their inherent currency exposures provide valuable diversification benefits at the total portfolio level.<\/p>\n

Making matters worse, you\u2019ll not only experience higher volatility over the long term, but you\u2019ll also lose returns to higher annual expenses. For instance, HEDJ levies a 0.56% annual fee, compared with a 0.12% fee for the Vanguard FTSE Europe ETF<\/strong> (VGK<\/a>), an ETF without a currency hedge. As usual, the big winners are the fund companies offering new products to retail investors.<\/p>\n

Basically, for investors with long-term time horizons, currency-hedged ETFs aren\u2019t appropriate as core portfolio holdings because of additional risks and higher costs.<\/p>\n

Nonetheless, the inflows show herding behavior, a hallmark of the financial markets.<\/p>\n

I wouldn\u2019t be surprised if many of the same traders who are chasing the performance of currency-hedged ETFs were also chasing emerging markets, gold, and other weak dollar plays in 2011. Yes, there was a time when nearly everyone was bearish on the dollar.<\/p>\n

Let this be a friendly reminder that chasing the most popular investment trends every year isn\u2019t a viable investment strategy.<\/p>\n

Bottom line: Be very careful how you utilize currency-hedged ETFs. If you do hold them in your portfolio, just be aware that you\u2019re speculating with respect to currency movements, not hedging.<\/p>\n

Safe (and high-yield) investing,<\/p>\n

Alan Gula, CFA<\/p>\n

The post Currency-Hedged ETFs Are 2015\u2019s Hottest Trend<\/a> appeared first on Wall Street Daily<\/a>.<\/p>\n

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By WallStreetDaily.com By Alan Gula, Chief Income Analyst Currency-hedged exchange-traded funds (ETFs) are perhaps the hottest trade in 2015. Since the beginning of the year, over $33 billion has flowed into these ETFs, which hold foreign equities but neutralize the foreign currency exposure. The WisdomTree Europe Hedged Equity ETF (HEDJ), for instance, has experienced inflows […]<\/p>\n","protected":false},"author":3,"featured_media":0,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[],"tags":[],"class_list":["post-71722","post","type-post","status-publish","format-standard","hentry","no-post-thumbnail"],"_links":{"self":[{"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/posts\/71722","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/users\/3"}],"replies":[{"embeddable":true,"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/comments?post=71722"}],"version-history":[{"count":3,"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/posts\/71722\/revisions"}],"predecessor-version":[{"id":71735,"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/posts\/71722\/revisions\/71735"}],"wp:attachment":[{"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/media?parent=71722"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/categories?post=71722"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/tags?post=71722"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}