Mutual fund with no currency hedge

[Tkydon]

https://www.investopedia.com/articles/f ... -swaps.asp

"Adverse currency movements can often crush the returns of a portfolio with heavy international exposure, ..."

" How Currency Hedging Helps Investors
Using currency swaps as hedges is also applicable to investments in mutual funds and ETFs. If you have a portfolio heavily weighted towards (foreign) stocks, you’re exposed to currency risk: The value of your holdings can decline due to changes in the exchange rate between the (currencies). You need to hedge your currency risk to benefit from owning your fund over the long term.

Many investors can reduce their risk exposure by using currency-hedged ETFs and mutual funds. A portfolio manager who must purchase foreign securities with a heavy dividend component for an equity fund could hedge against exchange rate volatility by entering into a currency swap in the same way as the U.S. company did in our examples. The only downside is that favorable currency movements will not have as beneficial an impact on the portfolio: The hedging strategy's protection against volatility cuts both ways."

"Parties with significant forex exposure, and hence currency risk, can ... choose to forgo some return by hedging currency risk that has the potential to negatively impact an investment."


https://am.jpmorgan.com/us/en/asset-man ... -equities/

As 04/06/2022
"Over the last 15 years, international equities have underperformed U.S. equities by a cumulative 270%. Currency played a role in this underperformance, subtracting 25%, as foreign currencies steadily weakened against the U.S. dollar. Investors are left wondering: should they hedge currency exposure when investing in international equities? The reality is that in the short-term currencies are impossible to predict, as they are prone to sudden swings. As Alan Greenspan once said about currency trading, “to my knowledge, no model projecting directional movements in exchange rates is significantly superior to tossing a coin.” Longer term, currencies do tend to revert to their fair value over time. As the U.S. dollar looks overvalued versus a basket of currencies, this suggests a depreciating trend over a multi-year horizon. Crucially, for portfolio construction, allocating to international equities on an unhedged basis helps to maximize the diversification benefits of the asset class and may boost long-term returns."

This is from the Viewpoint of the USD Base-Currency Investor, so the opposite is true for the Yen Base-Currency Investor...
As the JPY looks undervalued versus a basket of currencies, this suggests an appreciating trend over a multi-year horizon. Crucially, for portfolio construction, allocating to international equities from Japan on a hedged basis may help to minimize the risk that may reduce or negate long-term returns."


https://www.msci.com/documents/10199/f9 ... a19c8e1247

As May 2012
"... demonstrates that investing in foreign companies in periods when the corresponding foreign currency depreciates, will reduce the gains from foreign investments. Conversely, if the foreign currency appreciates, the gains from the foreign investment are enhanced."

"Conclusions
As investors continue to embrace foreign equities, the impact of exchange rates ... and whether or not to hedge this type of risk remains an essential decision. Currencies and their returns can fluctuate considerably over time and can have a meaningful impact on the investor’s realized return.
Investors in foreign equities who do not wish to take a position on currencies should consider hedging currency risk. This allows an investor to make a “direct” investment in a foreign company without currency risk. Hedging currency risk also can significantly reduce the volatility of equity investments."


https://www.msci.com/documents/1296102/ ... raphic.pdf

"There are a number of important factors to consider when evaluating if currency hedging is right for you, including time horizon, investment goals, and market outlook. Hedging currency risk may reduce the volatility of equity investments and aims to provide risk control by allowing investors to separate currency risk from their equity asset allocations.
You will also need to decide on what level of exposure to foreign exchange risk you are comfortable with. A 100% currency hedge aims to eliminate all foreign exchange exposure, but you may decide you want some exposure to potential appreciations in foreign currencies.
Under this scenario, you may choose to only hedge a portion of your foreign equities exposure."


Several docs indicated that the observed hedge yield between USD and JPY had been in the range of 0.3% to 0.6%...

And finally, the OP was asking about Unhedged Investments, so the comment of comparing the Unhedged performance outcomes to Hedged performance was just a PS for comparison.

[adamu]

The Hedge Gain will counteract the Forex Loss, or the Hedge Loss will counteract the Forex Gain - Net (close to) Zero...

Here is the full report that the summary adamu linked to is based on.

The way the hedges are priced depends on the interest rates in both the home and the foreign country when the hedge is made. Thus the hedge return depends on the currency movement and the interest rates in both countries. It is not simply the currency movement like you are making out. It is the latter point which leads to the returns of hedged international bond funds moving toward the returns of the home country bonds.

Thanks for the report link

Your style of responding to a point by posting links to articles and including large quotations, leaving the reader to work out what you're trying to say is quite baffling. I have no idea what your point is. Are you saying that the point in this Vanguard report about hedging resulting in home bias is not relevant?

[TBS]

...posting links to articles and including large quotations...

All of the links and quotations are written from the standpoint of hedging equities rather than bonds. So they miss the main point being discussed.

The problem of the hedge movement not exactly following the currency movement will also apply to equity funds of course. But as

- equities are a higher return asset class than bonds,
- the correlation of equity returns with interest rates will be lower than that for bonds and interest rates,
- and the main purpose of equities in a portfolio is different from that for bonds,

the issue of the hedge causing a home bias is much less visible, nor significant, for hedged equities.

[sutebayashi]

A few lines there get the currency speculator in me really going!

Longer term, currencies do tend to revert to their fair value over time….

…As the JPY looks undervalued versus a basket of currencies, this suggests an appreciating trend over a multi-year horizon.

I think that would generally be the case, however I also think there can be exceptions for fairly long periods of time, and that could be the case for the yen too.

I lost “a lot” of money speculating on a rebound of the Turkish Lira via fx some years back, and the attractive yield wasn’t enough to make up for it at all. If memory serves, the lira has absolutely crashed versus even the also weakened yen by more than 500%, over something like the past decade. In the case of the lira, President Erdogan doesn’t understand econ101 and thinks high interest rates cause inflation. (If he and his ilk are to be un-elected, buying the lira then could be an interesting speculative play, which is something I’ve had in the back of my mind watching the tragic earthquake events there recently… but I digress.)

In the case of Japan, the problems are different but there appears a predominant belief that a weak currency is desirable. Since the 1970’s it has gone from 360 to The Dollar to 75 once or twice but since Abenomics has been heading the other direction.

Like Greenspan said, predicting what will happen is impossible and we don’t know what the government types will do in what circumstances or even who the relevant government types will be, in advance. We can listen to what they are saying and doing now, though, which is not nothing.

All the yen that has been electronically printed doesn’t seem likely to be unprinted anytime soon, so far as I can tell, and with my salary income in yen I am happy to put my eggs completely in other baskets. Doing DCA tsumitate style also means the short term currency volatility provides occasional cheaper buying opportunities.

If government were to adopt a strong currency policy, I would certainly sit up and pay attention to such a significant change. But for the last decade it’s been a weak currency policy, and in the absence of that changing, I’m sticking with my unhedged portfolio. (The yen jumping from 150 to 130 in 2 months last year didn’t make me flinch, so I think my convictions are pretty strong - which might be an undoing eventually, but if so then my future salary income will be worth more relative to the world, so that is hedge enough for me.)

The other thing is, that notion mentioned of “undervalued” seems like a counter-trend approach, which loses if the prevailing trend continues. If one gets timing right then it could be a huge winner, but say one started hedging now, but the yen is 160 to the dollar sometime next year….
I think I would rather be late to start hedging, than early. “Late”, being after some fairly significant change actually eventuates, like when Kuroda the yen bazooka man was selected. Actually the yen had started weakening just on speculation of Abe becoming PM again, but even being “late”, there was still plenty of time to catch the belly of the move.

To get the yen back on a multi year strengthening trend versus The Dollar, would take some massive changes, I believe. I can’t see it just happening without a catalyst. Probably political changes in Japan’s case. But no matter who the politicians are, they are going to have to keep rolling over their quadrillion yen of accumulated public debt, and that’s going to be easier with a weaker currency than a stronger one. Of course, none of that precludes foreign currency guardians being even more incompetent with theirs… (so that’s why I also have some precious metals but equities should adjust in value to cover manipulated currency values)

[TokyoBoglehead]

Basically the only free lunch is domestic sovereign bonds, anything else is a bit of a gamble. We however do need to consider inflation so JGBs seem a bit pointless.

[*]A possible approach would be to hold your US Equities in say "VTI or VOO" a USD ETF. You could then choose to de-risk in the the future by selling the USD ETF and buying as USD.


If this was a 20 year+ plan it could be a quite valid approach.

The initial exchange rate of JPY->USD for the Equity ETF purchase would be less meaningful after 20 years of equity growth.

Thoughts?

[Gulliver]

Very basic question here:

Famous last words… I guess you can hedge your hedged hedges .

[TokyoBoglehead]

Very basic question here:

Famous last words… I guess you can hedge your hedged hedges .

The question was a great one, with a fairly easy answer.

The much more debated questions that follow for those of us earning yen is

1. Are foreign bonds even worth it due to currency risk?
2. If yes/no .....Is hedging worth while with bonds?

Those questions don't have easy answers. It's a strong maybe.... But they are not risk free like they are for Americans buying in USD so don't treat them as so

Also don't pay too much for these products, as high fees make them NOT worthwhile.

[Tkydon]

https://www.youtube.com/watch?v=PWhxC4Zb6U8
44:00 PensionCraft on Hedged vs Unhedged (Equity) Funds

And

48:00 PensionCraft on S&P Valuation