News & Analysis at your fingertips.

We use a range of cookies to give you the best possible browsing experience. By continuing to use this website, you agree to our use of cookies.
You can learn more about our cookie policy here, or by following the link at the bottom of any page on our site. See our updated Privacy Policy here.

0

Notifications

Notifications below are based on filters which can be adjusted via Economic and Webinar Calendar pages.

Live Webinar

Live Webinar Events

0

Economic Calendar

Economic Calendar Events

0
Free Trading Guides
Subscribe
Please try again
EUR/USD
Bearish
Oil - US Crude
Bullish
Wall Street
Bearish
Gold
Bullish
GBP/USD
Bearish
USD/JPY
Mixed
Low
High
of clients are net long.
of clients are net short.
Long Short

Note: Low and High figures are for the trading day.

Data provided by
More View more
Real Time News
  • 🇬🇷 Unemployment Rate (JAN) Actual: 16.0% Previous: 15.8% https://www.dailyfx.com/economic-calendar#2021-05-17
  • The Federal Reserve System (the Fed) was founded in 1913 by the United States Congress. The Fed’s actions and policies have a major impact on currency value, affecting many trades involving the US Dollar. Learn more about the Fed here: https://t.co/ADSC4sIHrP https://t.co/EihvlFd7F7
  • 🇪🇸 Balance of Trade (MAR) Actual: €411.9M Previous: €-1.082B https://www.dailyfx.com/economic-calendar#2021-05-17
  • 🇮🇹 Inflation Rate YoY Final (APR) Actual: 1.1% Expected: 1.1% Previous: 0.8% https://www.dailyfx.com/economic-calendar#2021-05-17
  • IG Client Sentiment Update: Our data shows the vast majority of traders in Silver are long at 90.36%, while traders in France 40 are at opposite extremes with 77.35%. See the summary chart below and full details and charts on DailyFX: https://www.dailyfx.com/sentiment https://t.co/C04UY1TrKt
  • Heads Up:🇪🇸 Balance of Trade (MAR) due at 08:00 GMT (15min) Previous: €-1.082B https://www.dailyfx.com/economic-calendar#2021-05-17
  • Heads Up:🇮🇹 Inflation Rate YoY Final (APR) due at 08:00 GMT (15min) Expected: 1.1% Previous: 0.8% https://www.dailyfx.com/economic-calendar#2021-05-17
  • Commodities Update: As of 07:00, these are your best and worst performers based on the London trading schedule: Silver: 0.92% Gold: 0.46% Oil - US Crude: 0.04% View the performance of all markets via https://www.dailyfx.com/forex-rates#commodities https://t.co/q8j625VBrH
  • Forex Update: As of 07:00, these are your best and worst performers based on the London trading schedule: 🇯🇵JPY: 0.15% 🇬🇧GBP: 0.15% 🇪🇺EUR: -0.01% 🇨🇦CAD: -0.04% 🇦🇺AUD: -0.23% 🇳🇿NZD: -0.34% View the performance of all markets via https://www.dailyfx.com/forex-rates#currencies https://t.co/KI9zfLbuG7
  • Indices Update: As of 07:00, these are your best and worst performers based on the London trading schedule: France 40: 0.37% FTSE 100: 0.03% Germany 30: 0.01% US 500: -0.10% Wall Street: -0.13% View the performance of all markets via https://www.dailyfx.com/forex-rates#indices https://t.co/EUJCUVLPjr
Introduction to Currency Overlay and Hedging Strategies

Introduction to Currency Overlay and Hedging Strategies

David Schutz,

How would you like to make a successful investment, only to watch your profits diminish or even disappear on a technicality? Didn’t think so. It’s happened before, and you mustn’t forget that an investment in any foreign entity is also an investment in that nation’s currency. If the foreign currency loses value against your own currency, your returns could suffer when you convert them back into your own money.

To illustrate: “Joe” is a Canadian investor. In 2003, he invested in the S&P 500, an American equity index. Before sitting back to watch his stock grow, though, he converted his CAD into Greenbacks to make the investment.

The market boomed, and by 2008 the S&P was up 38%. But when Joe decided to take profit, he realized that his real earnings were nowhere near what they should have been. The reason? While Joe’s cash was sitting in US markets, the effects of the early 2000s bull market were not lost on the risk-correlated Canadian Dollar which more than offset his US equity profit. So strong were Canadian Dollar gains, in fact, that when he converted his 38% profit back into his native currency, he actually had 3% less cash than when he started out.

Introduction to Currency Overlay and Hedging Strategies

What is Currency overlay?

An astute investor like Joe, with enough foresight to liquidate his investment before the 2008 crash, should’ve known to hedge. Currency hedging (or currency overlay) essentially involves selling one’s native currency to offset any gains it might accrue over the investment period. Had Joe hedged, he would have sold USD/CAD (bought Canadian Dollars against the US Dollar) to the amount of his US investment.

It’s a win-win strategy – by 2008, Joe’s profit from his currency trade would have offset the decrease of investment return value caused by the appreciation of the Canadian Dollar versus the Buck during the same time. However, had USD/CAD climbed during this period, Joe’s losses would have been covered by the Buck appreciation, which would have made his S&P returns worth more in Canadian money.

Overlay strategies originated in Europe in the 1980s and have since spread as a popular way to eliminate currency risk. Today, with the availability of web-based forex platforms, any investor can successfully hedge a foreign investment.

Types of currency overlay

To add a twist, let’s say that in 2003 Joe had a long-term market view. Joe correctly foresaw the Canadian Dollar appreciating versus the Dollar, and wanted not only to hedge out his losses but to turn a profit. This marks the distinction between passive and active currency hedging.

A passive strategy focuses on complete elimination of currency exposure as described above. The hedge is equal to (or a fixed percentage of) the investment and enables the investor to focus solely on his investment without the worry of currency risk. These investors look no further, preferring to take their profits from the investment itself.

An active strategy, however, takes a position on market direction and seeks to profit while keeping risk at a minimum. For example: Joe could have varied the percentage of his currency hedge, based on market fluctuations and his short and medium term view of market movements, with the goal of beating his investment return benchmark.

If, for example, during the investment period he felt that there were times that the Canadian Dollar was at risk for weakness, Joe could have reduced his complete hedge and benefited from a short-term USD rise. Once he felt that the short-term USD rally had run its course, he could then look to fully hedge.

Hedging can be a complicated business, and many people hire professionals to do their currency hedging for them. This is often unnecessary – any smart trader should be able to execute a successful overlay strategy. Over the coming weeks and months, DailyFX will be running a series of articles on currency overlay, and what you can do to protect your foreign investment. Each piece will cover a different face of the dozens of strategies out there.

Judging by the amount of FX hedge funds springing up all over the world, currencies are becoming increasingly relevant in the investment word. We expect market volatility to only increase as the Euro crisis intensifies. Don’t miss out – hedge your market knowledge, just like your investments.

DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.

DISCLOSURES