Hedging portfolio foreign currency risk

K

koreil90

Hi everyone,

I am Canadian investing in US stock market, trading in an Interactive Brokers account. I am looking to hedge my portfolio's foreign currency risk using FX contacts as described here https://seekingalpha.com/article/3530636-diy-currency-hedging-hedge-international-equity-portfolio

Basically, the steps would be like this:
  1. assuming USD.CAD = 1.3, deposit 130,000CAD into account
  2. convert 130,000CAD cash balance into 100,000USD cash balance
  3. sell 100,000 of USD.CAD (both steps 2 & 3, at the same USD.CAD = 1.3 rate)
  4. use 100,000USD cash balance to buy US stocks.
  5. hold the US stock portfolio for a long period
  6. at the end, sell the US stock portfolio. Convert USD cash balance into CAD cash balance and close the USD.CAD position (buy 100,000)
Can you guys advise me about potential issues? Margin implications? Cost?

TIA.
 
You should buy correct amount of Cad $ future at CME instead in step 3.

Cost: bid ask spread and commission rolling the future plus interest rate difference between USD and CAD

IB treat spot fx the same as cash conversion, so you will end up not converting anything as step 3 cancel out step 2.
 
Alexpung said:
You should buy correct amount of Cad $ future at CME instead in step 3.

Cost: bid ask spread and commission rolling the future plus interest rate difference between USD and CAD

IB treat spot fx the same as cash conversion, so you will end up not converting anything as step 3 cancel out step 2.
More...
Thank you for your answer Alexpung. I totally agree with you that indeed, your suggestion, buying Cad $ future at CME can be used to hedge the portfolio.

The SA article describes two strategies, "Foreign Currency Options" on pg 2 and "Leveraged Fx Trading" on pg 3. I would like to focus the discution on the strategy sugested on pg 3 - "Leveraged Fx Trading".
 
My understanding of IB is that up to a certain balance you will not get paid interest on cash holdings but you still have to pay interest on debit balances. i.e. if your balance is below $100K. See this link for more details -
https://www.interactivebrokers.com/en/index.php?f=1605&p=otherInterest1

Considering both USD and CAD have high interest rates (relative) this will be a factor for you.

Having said that, you might be better off hedging via the futures market if your balance is below the threshold. You can buy cad futures a year out, keep in mind the price will be slightly higher considering the interest rate differential but in the end it doesn't make a difference compared to rolling the front contract.

That method will dig into your available purchasing power a bit though, so how much you plan to leverage will be important.

Futures are usually slightly cheaper (commission) compared to leveraged fx but that's a negligible difference. If it's a new account also consider leveraged FX is not enabled by default (at least it wasn't for me).

Basically I agree with what the previous poster said except, trade the contract a year out if that's your intention so that you're not rolling it over every month. Also cash conversion is different from leveraged FX. You can open a position in USD.CAD via the fx trader.. if you want to go that route.. it will show up as a position with a PNL. I believe this method will provide you with a bit more leverage if that's important to you.
 
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