Hedging overseas FX risk

V

vaffab

Hi all

I live in Australia and apart from being able to buy some some generic US funds like the S&P 500, there's not a lot of international exposure traded on the ASX. This led me to signing up with Interactive Brokers and purchasing some US Financials and Gold bullion funds (VFH and GLD respectively).

Now both ETF's are slightly down since I bought them which is not a concern, but what is a concern is the FX risk as the USD is getting stronger and stronger against AUD. This is making me a bit nervous as I am unhedged against it and even if my two longs go my way, if the USD keep getting stronger I'll still be down.

What is my best hedging strategy here? Do I buy the USD against a basket of all other currencies or just against AUD? I have an overall understanding of how options work but not enough to give me confidence to trade them.

Any assistance and advice greatly appreciated.

Thank you
 
There is a very similar post made by a Canadian recently. The most fundamental way for you to hedge that currency risk is to buy forex AUD/USD in an equivalent notional amount to your investment. It will lock in returns of US financials (good or bad) to AUD terms. Make sure you understand the risks of this highly leveraged forex product.

Your GLD exposure is already hedged (and somewhat self defeating) because a strong dollar/weak AUD leads to weak gold and vice versa. If you want to unhedge, you buy a local mining concern in your home currency instead. Australia has some of the biggest mining companies in the world and is quite dependent on the sector. Additionally, the commodity and the stocks within the sector are highly correlated.

If you are on Australian investor trying to diversify a local stock portfolio by going global, GLD is so wrong for you on so many levels.
 
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Not sure if I'm misinterpreting but right now with your VLH and GLD a growing U.S dollar is beneficial since those funds are in U.S dollars. What you'd want to do is worry about the U.S dollar coming down against the AUD since you bought into US funds at their higher point.
 
xandman said:
There is a very similar post made by a Canadian recently. The most fundamental way for you to hedge that currency risk is to buy forex AUD/USD in an equivalent notional amount to your investment. It will lock in returns of US financials (good or bad) to AUD terms. Make sure you understand the risks of this highly leveraged forex product.

Your GLD exposure is already hedged (and somewhat self defeating) because a strong dollar/weak AUD leads to weak gold and vice versa. If you want to unhedge, you buy a local mining concern in your home currency instead. Australia has some of the biggest mining companies in the world and is quite dependent on the sector. Additionally, the commodity and the stocks within the sector are highly correlated.

If you are on Australian investor trying to diversify a local stock portfolio by going global, GLD is so wrong for you on so many levels.
More...

Thanks for your response Xandman.

My thinking was this; if i buy a fund traded in the US and change AUD into USD, if USD goes up in the future, the value of my AUD will drop. Hence the question. I now realise that if a USD fund goes up, so will my profits as long as AUD/USD doesn't go up in the meantime. Right?

My personal view is long term AUD weakness, therefore I should get rid of my GLD exposure? I also think there'll be tremors in the market because of Trump, which was the initial reason i bought the GLD. Is it possible for USD and GLD to go up simultaneously?
 
Metamega said:
Not sure if I'm misinterpreting but right now with your VLH and GLD a growing U.S dollar is beneficial since those funds are in U.S dollars. What you'd want to do is worry about the U.S dollar coming down against the AUD since you bought into US funds at their higher point.
More...

Thanks Metamega. Yes, I was a bit confused and thought the strong USD was bad for my exposure. I now realise I've essentially bought USD and hence would be happy with a rising dollar.

Cheers
 
vaffab said:
What is my best hedging strategy here? Do I buy the USD against a basket of all other currencies or just against AUD? I have an overall understanding of how options work but not enough to give me confidence to trade them.
More...

With all due respect. The very fact you have to ask the question means your "best" hedging strategy is not to hedge.

Your "best" strategy is cash hedging (i.e. think you have too much money in USD ETFs ? sell some and buy ETFs in another currency), i.e. rebalance your portfolio to match what you perceive to be your currency risk.

There is nothing wrong with the cash approach. I know many professional money managers running large portfolios who don't do any fancy hedging and just rebalance their portfolios as and when needed. They have an excellent track record and thus there is no need to dispute their approach.

Sometimes its best to remember the KISS principle ! (Keep It Simple Silly).

There is no such thing as a free lunch in finance (or easy hedging).

Hedging is complicated, needs experience and is not something that can be explained in a few forum posts, let alone the fact that its not a "buy and forget" thing to get involved with. Like most forms of "insurance" in finance, it also comes with associated expenses and risks.

I would therefore suggest you stick to cash hedging. And if you're really insistent on doing "smart" hedging then you buy a few books and paper-trade your hedges until such time as you fully understand the complexities involved.
 
If you feel unsure about direct currency hedging but still want to investigate your possibilities you could take a look at currency ETFs such as FXA. Or conversely, look at the ASX whether there is any instrument such as an ETF which is related to the USD currency, denominated in AUD.
 
vaffab said:
Thanks for your response Xandman.

My thinking was this; if i buy a fund traded in the US and change AUD into USD, if USD goes up in the future, the value of my AUD will drop. Hence the question. I now realise that if a USD fund goes up, so will my profits as long as AUD/USD doesn't go up in the meantime. Right?

My personal view is long term AUD weakness, therefore I should get rid of my GLD exposure? I also think there'll be tremors in the market because of Trump, which was the initial reason i bought the GLD. Is it possible for USD and GLD to go up simultaneously?
More...


Correct. When you liquidate a foreign product allocation, You will have to turn it back into AUD at a higher price and realize the currency loss. Don't let this be a deterrent for foreign investing. Just be aware of the risks. imho. Equity risk is a bigger risk in an un-levered state.

Something attracted you to GLD in the first place. A weak AUD stemming from a weak Australian economy probably means gold and the mining sector is also in trouble. Warning: I have not verified the gold and gold sector correlation in other currency terms. Please research the Australia's local mining sector performance within Australia's domestic business cycle data as well. To US investors, GLD and GDX are interchangeable. But then, we have minimal dependence on our mining sectors.

Tim Smith makes a good point about K.I.S.S. in your implementation.
 
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Uhm, IB's standard setting is that you will be hedged for fx-risk.

You have 200k AUD in your account.
You buy 100k USD worth of stocks, they will lend you that amount.

So after the trade:
You have 200k AUD
You have 100k USD short (through the loan)
you have 100k USD worth or stocks

So initially no currency risk, since your short USD offsets the long USD stock. Your profit or loss will have currency risk though. This is how they treat a foreign currency asset purchase.

I think there's an option somewhere to select them to purchase the foreign currency on your behalf before the trade, or at the trade... can't remember.

So, before you start trying to hedge something, be sure what you actually have in position!
 
Hedging cash flows and hedging the fair value of assets (particularly assets with unknown future fair value) are two very different things with the latter being much more difficult. You can die a slow death trying to hedge the notional of your foreign investment.

Assuming you actually have length in USD (you should check that as mentioned above):

Gold is inversely correlated with USD and positively correlated with AUD so your USD investment in gold is already a hedge with the beta of your gold investment (in AUD) less than the beta of gold (in USD).

With my two points above, I would do nothing from a FX hedging perspective.
 
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