Hedging S&P 500 funds

aroominyork

I want to add an S&P index fund to my portfolio. The question is whether to pick a hedged fund. I have two questions.

First, is there anything to consider other than whether I want to get rid of the currency risk (at a slightly increased fund charge)? For example, is there any correlation between the dollar's weakness or strength and the direction its stock market takes, which I should take into account?

Second, iShares has a monthly hedged fund which its factsheet says has USD exposure hedged back to GBP monthly. What does that mean? It seems unlikely that day-to-day the fund reflects live $/£ forex rates and is hedge-adjusted once a month.

masonic

The first question you should ask is: why do it?

It is a form of currency speculation. It comes with a cost. Currency movements in your favour are generally equally likely as against you. So the net effect of hedging is negative more often than not, especially over the long term. You also need to consider the effect of globalisation and the effect of currency fluctuations on the price of the goods and services you consume. By hedging, you will be removing any gain you'd get from the pound weakening against other currencies, but you'd still feel the loss of spending power when purchasing goods and services whose price is linked to USD.

It might be better to buy the unhedged fund and look into currency futures to gain an appropriate degree of hedging that addresses your actual exposure to the currency risk. I should say this is not something I've ever taken much interest in, because over the long term (30+ years) I don't believe currency fluctuations are material to returns.

A_T

In the Global Financial Crisis UK investors in Wall Street fared a lot better then their American counterparts because Sterling weakened considerably vs the Dollar.

AnotherJoe

Waste of time and no point unless you are hedging very short term, days to a few months at most.

Reasons being;
1. You can't hedge against a fall indefinitely. The pigeons WILL eventually come home to roost.
2. Hedging costs. That cost reduces your gains. Long term, since the aforesaid pigeons will be coming home, then that cost comes right off your top line profit, and gains you nothing except guaranteed lower returns.

Alexland

We don't know what's going to happen but I share your concern about the currency weakness and the possible impact if the pound starts strengthening again as we saw last year. I can see why you might want to 'lock in' some of your recent gains.

Have you considered other methods to balance your currency risk across your portfolio such as holding some cash or moving to UK bonds?

Alex

aroominyork

Thanks all - helpful. I am going to work through masonic's comment until I fully understand it "You also need to consider the effect of globalisation and the effect of currency fluctuations on the price of the goods and services you consume. By hedging, you will be removing any gain you'd get from the pound weakening against other currencies, but you'd still feel the loss of spending power when purchasing goods and services whose price is linked to USD." This might take me a few days...

I'd appreciate an explanation from my original post about what USD hedged to GBP monthly means.

LobsterMemory

Try this...



It!!!8217;s a short position taken against the foreign currency that benefits if that currency declines. Most ETFs use a hedge known as a forward currency contract. It!!!8217;s an agreement to exchange two currencies at a fixed price and date - typically one-month or one-day ahead.

The forward contract matches the value of the ETF!!!8217;s assets, so if your foreign investments fall in value against the pound, then the losses are offset by the contract!!!8217;s gain.
Equally, if the foreign currency appreciates against the pound then those gains are negated by the contract!!!8217;s loss.

Either way, you!!!8217;re left with approximately the returns of the local market.

Full article here

https://www.justetf.com/uk/news/etf/why-currency-hedged-etfs-are-rising-in-popularity.html

aroominyork

Many thanks, Lobster. Am I right in assuming the one month forward contract is a back office detail which would not affect me, ie not impact on the buying or selling price, or the performance chart, at any days during the monthly hedging cycle?

londoninvestor

The NAV of the fund is the valuation of all the underlying assets - stocks, cash balances (in whatever currency) and the mark-to-market for the forward contract. So the forward contract will change the unit value as the FX rate moves - in a way that roughly cancels out the impact of the FX rate move on the GBP valuation of the stocks. That's just what you want to happen in a hedged share class

Of course the bid/offer prices of an ETF won't exactly match the NAV, but they'll stay very close for a large liquid fund like this.

The prospectus explains how the hedging is done in decent detail - see page 43.