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Lonsec Research   ⟩   News & Insights   ⟩   News   ⟩   To hedge or not to hedge
Gordon Toy

AuthorGordon Toy

DateMarch 20, 2018

CategoryNews

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Investors are becoming increasingly aware of the diversification benefits associated with having some global exposure in their portfolio. However, with global exposure comes currency risk, and how this risk is managed can have a significant impact on investment performance.

The decision to hedge is not always clear-cut, and may depend on the investment period as well as where the currency is sitting relative to its long-term average. Assuming mean-reversion, the risk of leaving your investment unhedged is greater when the AUD moves significantly below its historical average. Given that 60% of the MSCI World Index comprises US shares, Australian investors tend to be most concerned with managing their AUD/USD exposure. As the chart below shows, the AUD/USD can move significantly above or below its long-term average over time.

AUD/USD

Source: Lonsec, Bloomberg

Looking back five years, the AUD was at USD 1.02, or 27 cents above the long-term average. If you had decided to hedge at this point, an investment in global shares would have earned a return of 14.2% p.a. compared to a possible unhedged return of 17.7% p.a. (based on the MSCI World Ex-Australia Index). Compare this to the situation 15 years ago, when the AUD was at USD 0.61, or 15 cents below the long-term average. Over this period, hedged returns would have earned 10.9% p.a. versus unhedged returns of only 7.1% p.a. (see chart below).

MSCI World Ex-Australia Index annualised returns (hedged vs. unhedged)

Source: Lonsec, Bloomberg

The hedging decision can often be a vital one. As the chart below shows, if you had invested $100,000 in global shares 15 years ago, your hedged balance would be $478,000, but your unhedged balance would be $293,000 (a difference of $185,000).

$100,000 invested in the MSCI World Ex-Australia Index (hedged vs. unhedged)

Source: Lonsec, Bloomberg

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IMPORTANT NOTICE: This document is published by Lonsec Research Pty Ltd ABN 11 151 658 561, AFSL 421 445 (Lonsec).

Please read the following before making any investment decision about any financial product mentioned in this document.

Warnings: Lonsec reserves the right to withdraw this document at any time and assumes no obligation to update this document after the date of publication. Past performance is not a reliable indicator of future performance. Any express or implied recommendation, rating, or advice presented in this document is a “class service” (as defined in the Financial Advisers Act 2008 (NZ)) or limited to “general advice” (as defined in the Corporations Act (C’th)) and based solely on consideration of data or the investment merits of the financial product(s) alone, without taking into account the investment objectives, financial situation and particular needs (“financial circumstances”) of any particular person.

Warnings and Disclosure in relation to particular products: If our general advice relates to the acquisition or possible acquisition or disposal or possible disposal of particular classes of assets or financial product(s), before making any decision the reader should obtain and consider more information, including the Investment Statement or Product Disclosure Statement and, where relevant, refer to Lonsec’s full research report for each financial product, including the disclosure notice. The reader must also consider whether it is personally appropriate in light of his or her financial circumstances or should seek further advice on its appropriateness. It is not a “personalised service” (as defined in the Financial Advisers Act 2008 (NZ)) and does not constitute a recommendation to purchase, hold, redeem or sell any financial product(s), and the reader should seek independent financial advice before investing in any financial product. Lonsec may receive a fee from Fund Manager or Product Issuer (s) for reviewing and rating individual financial product(s), using comprehensive and objective criteria. Lonsec may also receive fees from the Fund Manager or Financial Product Issuer (s) for subscribing to investment research content and services provided by Lonsec.

Disclaimer: This document is for the exclusive use of the person to whom it is provided by Lonsec and must not be used or relied upon by any other person. No representation, warranty or undertaking is given or made in relation to the accuracy or completeness of the information presented in this document, which is drawn from public information not verified by Lonsec. Conclusions, ratings and advice are reasonably held at the time of completion but subject to change without notice. Lonsec assumes no obligation to update this document following publication. Except for any liability which cannot be excluded, Lonsec, its directors, officers, employees and agents disclaim all liability for any error, inaccuracy, misstatement or omission, or any loss suffered through relying on the information.

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For more information contact:

Gordon Toy
03 9623 6373
Gordon.Toy@lonsec.com.au

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