Good afternoon,
In this context of inflation and FED rates increase, what is your strategy for currency hedging?
Is it worth it?
Thank you!
Use currency hedging for bonds but don’t use currency hedging for equity. That’s the usual advice independent of inflation.
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Buy shares of international companies that have global sales in multiple countries. That way I have a natural hedge to the currencies of those countries
Do you have a source for that?
Interest rate parity theory as I understand it on a basic level would say that if you invest in a USD denominated bond with higher interest rate than a bond with equivalent risk profile denominated in CHF, all other things being equal the FX rate will change over time so that you earn the same return as the CHF bond.
If you are able to predict macroeconomics changes better than the market then there is an arbitrage opportunity to buy futures (hedge) and make profits (carry trade). But as an individual investor you are competing against professional FX and bond traders
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Yes, that would be the market expectation in the long term. However, currency exchange rates can be fairly volatile in the short term. See e.g. USD appreciating against CHF beginning of April until mid-May despite higher interest rates.
The main motivation for having a mixed stock/bond portfolio (instead of 100% stocks) is to reduce overall portfolio volatility, as measured in the local currency. As far as I know, local bonds and hedged foreign bonds fulfill that purpose better than unhedged foreign bonds.
This Vanguard resarch paper may be interesting: Going global with bonds. I might have read this a while ago but have only skimmed it right now.
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Reviving the topic to see if anyone was an updated strategy for the USD decline vs the Chuff!
If you think you can get better return than what the market is already pricing, you definitely should make an FX bet 
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How do you implement your currency hedge? Most of us probably do not hedge equity, but for those of you who have bonds in foreign currencies, how do you hedge them back to CHF?
This thread is for a discussion of the implementation method of hedging.
For a discussion on whether to hedge or not, please go to this thread.
- I buy hedged shares of my ETFs or funds and let them do it
- I have large currency forward contracts with my broker(s) and renew them with swap contracts every few months
- I buy structured products (mini-futures, …)
- I keep open positions on a forex platform and let them roll over every night
- I do not hedge anything although I have bonds in foreign currencies
- I do not hedge, and also do not have any bonds in foreign currencies
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Nobody hedging so far, now I understand why the discussion in the other thread moved from “how do you hedge” to “do you hedge” 
Because VIAC forces me to do it if I want to invest all outside of CH and Frankly. incorporates it in their solutions directly.
I do not currently own foreign bonds but I’d buy a globally diversified fund hedged in CHF if that was my intent.
I both hold a certain percent of global shares in a currency hedged Index fund. This given that hedging or no hedging in the long run was a zero-sum game. The last few years, non hedged had beaten hedged yet things are bound to mean revert. And even if not, there is a certain rebalancing bonus.
Further, I hold hedged bond Index funds. Hedging for bonds in my view is a must; and it is as well a must to diversify beyond CHF bonds.
It made me think. US Government Bonds had a nice anti-correlation to US Stocks. Wouldn’t that potentially be undone by taking an additional (covered) FX position?
And isn’t the focus on hedging securities wrong? Whilst you actually try to hedge your idiosyncratic consumption at Swiss inflation. As always you can only hedge for unexpected changes.
Let me think. Your expected consumption should be hedged for the unexpected local inflation vs unexpected global inflation. Your Portfolio then only has one job: To generate money at an accepted risk. It should have nothing to do with your consumption. If FX hedging inside the portfolio can still improve the return (directly or by decreasing risk which you can lever up again), then it does so regardless of where you spend your money.
Some market neutral long-short of short-term ILBs minus normal Bonds? Not that I would do that, seems expensive.
I consider it a discount atm getting more ETFs for my CHF. Do expect the CHFUSD to keep lowering long term but it will go back to the slower rate and even out. Right now its a discount, is my optimistic thinking. Nor am I bullish on European and Asian companies outperforming, so not increasing VSUX/VEA allocation.
It makes a lot of sense, but my intent with this thread was to focus on the technical implementation, which I think was never discussed in details on this forum. Many people on this forum disagree that hedging is useful, but this is discussed in the other thread (link in my original post).
I would be very interested to hear if anybody hedged currency themselves instead of with hedged shares and has any experience to share.
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There are a few ways - the main ones I used are:
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Easiest is probably to take margin (hold negative cash balances) in your target currency. But this is now very expensive with higher rates and inverted yield curve likely leading to negative carry
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Another easy way is to hold short positions in the target currency. You can get currency hedging for free with long/short hedging. e.g. Say you want to buy Costco, you buy $1000 of Costco and then say short $1000 of Target. You eliminate currency risk, reduce your beta and eliminate sector risk to some degree.
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If you buy foreign stocks, there can be a degree of natural hedging as a fall in the currency will normally result in a rise in the share price. This of course depends on the specific stock and its features such as whether its inputs are imports and sales are exports etc.
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Another way is to buy real assets. I do this mainly as an inflation hedge, but it is also a currency hedge. So you can buy real estate (inflation hedge only), commodities (I buy oil & gas, metals and uranium) or companies related to those (energy companies, mining companies, uranium holding companies).
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Last is not to hedge at all if you want to take the currency risk. Or viewed another way, if you want to diversify your currency exposure. In Switzerland a lot of stuff is imported and so one could argue that holding foreign currency of those imported products is some form of hedging. Now you have unavoidable local costs such as: housing, health insurance, taxes, local services. Some of these can be hedged away by buying a home, having a local source of income (such as a pension or local real estate) and is normally offset by earning a local wage anyhow.
Looking then more holistically at how you hedge risks and needs in your life and not just currency risk in your investment portfolio, you can view currency risk in a wider context. Personally I do the following:
- Hedge local currency requirements by: owning own home, owning local investment property, paying into pension pillar 1, 1e, 2 and 3a
- Hedge portfolio partially with short positions
- Own real assets or companies owning and developing real assets
- Take currency risk on portfolio and get comfortable being net long in: USD, JPY, CAD, AUD, GBP. I actually sold all of my Swiss shares but this was more coincidence than by design.
Think about directly hedging your needs e.g. buy property, insulate, install solar panels, etc. This way you become more independent and reduce your future costs which can increase with inflation.
I am in the phase of setting up my asset allocation and I am deciding whether to own a currency hedged world-equity ETF, or an unhedged one.
By reading around, see e.g. this post, it looks as if (Swiss) investors don’t quite hedge foreign equity.
However, I don’t understand why. Consider this paper from MSCI. For the MSCI ACWI index (a world stock index), it seems that a Swiss investor, at least historically, could greatly reduce volatility by hedging:
From a return point of view, returns from the hedged version seem slighly higher:
Summing up, for a Swiss investor, historically:
- hedging significantly reduced volatility
- without compromising returns (I assume that the return increase by hedging was eaten by the hedging costs, see also this paper from Vanguard)
So, why NOT hedging?
I can see a few reasons, please let me know what you think about them, and feel free to add more:
- using the past to predict the future is not significant (but maybe, there are some “structural” reasons for the observations above that are likely to hold also in the future)
- hedging equities eliminates some kind of diversification benefit, say, from having a home currency that is uncorrelated from the world stock market, or from just being exposed to multiple foreign currency (is CHF uncorrelated to world stocks? Are the alleged losses of such diversification benefits that significant?)
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As I understand, hedging causes significant costs in the long-term.
This article from ZKB has some explanations and nice charts Link
I wouldn’t call it a “cost”, rather, a return. It can be both positive or negative.
Anyhow, the article targets not foreign equity but foreign bonds, as far as I understand.
Over the long run, returns from hedged and unhedged foreign equity (but also bonds) should pretty much align.
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Best of both worlds could be to hedge only part of your portfolio, to reduce volatility.
If you don’t need to report your Assets Under Management in CHF on a, say, monthly, or quarterly basis, measured against some CHF hedged benchmark, what’s your benefit from reducing volatility in CHF?
I can see why it matters for a “professional” portfolio manager. They’re measured on a monthly or quartely basis against their hedged benchmark and their job & salary depends on not deviating too much from the CHF hedged benchmark.
But why would you care about volatility?*
You (IMO) in essence pay insurance for a smoothed out CHF value curve … which doesn’t matter if your horizon is years or decades?
Might also be worth looking at the sources advocating for hedging. Of course fund/ETF providers will happily offer you hedging and even tell you it’s great e.g. for reducing volatility … and equally great for them to make an additional buck or two for the hedged share class you’ll buy into.
YMMV, of course
P.S.: This topic has been discussed before on this forum.
* I could see hedging perhaps making sense if your asset allocation is 99% non-CHF, you’re quickly approaching retirement and you want to reduce currency risk (you’ll still pay for reducing that currency risk).
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“Frequency of better returns with hedging:
Swiss Francs: 10 years: 33.8%”
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