Swiss investors and FX risk / Modified VT

If you compare the FX rates from 10 years ago to today in CHF:

USD: 1.0425 -> 0.9038 (-13.3%)
EUR: 1.3400 -> 1.0758 (-19.7%)
GBP: 1.6259 -> 1.2072 (-25.8%)
JPY: 0.012208 -> 0.008571 (-29.8%)

You can look further back in history and you’ll notice that all major currencies lost a lot of value compared to the CHF. At least US stocks overcompensated it with great returns, but Europe and Pacific? Terrible. So that’s why I’m thinking that Swiss investors aren’t compensated enough in general for the currency risks they are taking. I was always against currency-hedged funds, mainly due to the massive performance drag due to the high interest rate difference. But nowadays the central bank rates are pretty close which leads to way lower currency hedging costs. Hedging USD for example lead to a performance drag of 2.5-3%/year in the past, currently just around 1%/year. The recent devaluation of other currencies made me overthink my current investment strategy. That’s why I’m changing my asset allocation. There isn’t a lot of rebalancing required because I already have a 15% CH home bias, but I’ll exchange some funds in VIAC and ValuePension with the CHF-hedged version to get my desired allocation, which is:

60% US (20% CHF-hedged)
20% Switzerland
10% Europe, Pacific, Canada (10% CHF-hedged)
10% Emerging markets

It’s very close to VT (currently at 57% US, 32% developed and 11% emerging markets), main difference is that Switzerland is replacing most of the exUS developed world. Country risk is limited as 90% of the revenues from Swiss companies are made abroad (Nestle for example even 98%), so see no issue here. There are also a couple of papers from Vanguard suggesting that 20% is a reasonable home bias for British or Japanese investors, so it will probably also translate to Swiss investors. I’m getting a total currency exposure of 50% CHF, 40% USD and 10% EM currencies. Of course still exposed to foreign currencies, but only half of my assets. How am I going to implement it with my accounts at IBKR, VIAC and ValuePension:

IBKR (CHF 16’400)
100% VTI

VIAC (CHF 17’100)
3% cash
20% SMI
30% SPI Extra
27% MSCI World ex CH (CHF-hedged)
20% Emerging markets

ValuePension (CHF 18’400)
1% cash
9% SMI
10% Emerging Markets
15% MSCI USA
65% MSCI World ex CH (CHF-hedged)

It’s not just randomly distributed across those accounts, it’s also tax-optimized. IBKR only VTI because I can reclaim the whole dividends through DA-1 form. Viac and VP mostly exUS assets because of the higher dividends which aren’t taxed as they are tax-deferred accounts. Also reduces costs because FX costs in Viac aren’t as cheap as IBKR.

Would appreciate some feedback. What do you think?

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I think there two problems with this. Firstly, most of us won’t spend their money in CHF on retirement, so it doesn’t matter much how much dollar will lose value against Swiss franc, if it will remain strong against the currency that we gonna use on retirement (in my case it’s PLN, so for me it’s even safer to keep things in USD than in PLN). Some portion I could keep in CHF (like in Gold) as an USD inflation hedge.

Secondly, you have to balance the currency risk against the concentration risk - if Switzerland will vote the immigration restrictions and it will go into trade war with EU, then who can guarantee that it won’t end in secular stagnation like Japan, especially that Swiss are one of the fastest aging societies and without immigrants it would be already in economic stagnation for years. I think Swiss are reasonable enough to not burn their own house to get rid of immigration, but who knows how strong SVP will be in the future?

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PS.

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Yes, other currencies are loosing value against CHF on the long term. French franc (including euro) was divided by 600 in 1-2 centuries (it was stable a long time, so I don’t know what period to take into account precisely).

USD was divided by 6 in two centuries. I heard that the italian lira was divided by 1300 but I didn’t check.

I believe that it because some currencies (especially USD) lost a lot recently. That mean they are supposed to loose less now, so i think it is not a better deal now.

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Hi Cortana!

I think I would be useful to look at the inflation-corrected changes rather than nominal, which is probably negative as well but a bit less, except maybe with Japan. But even with real rates, I still see your point.

The difference of interest rates is not the only cost. There is also the spread in swap rates, which is a bigger deal to me. In fact, I do not consider the difference of interest rates to be an actual cost, because it evens out with inflation over long periods (my previous remark).

My personal feeling is that the weight for US has a concentration risk. I know that it is its weight in MSCI World, but I would not leave my assets exposed in that way to a single country, even less with all the uncertainty today.

Not only country risk. The SMI exposes you to other currencies than CHF as well because of exportations. Hedging currencies in stocks is not easy because the currency of the stock does not always reflect the actual cash flow of the company. I feel that CHF-hedging stock would distort my exposure in a way that I would not understand it any more. For example if a US company has 50% of its revenue in Europe and I USDCHF-hedge it, I end up adding a EURUSD exposure. I like a completely transparent setup with stocks, which are just ownership share of tangible companies, and that’s it. I hedge my bonds though, because the currency exposure for them is very clear.

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My own policy is to invest mainly in the country where I intend to spend my wealth and hedge concentration risk by investing in other countries where I would be willing to spend wealth too (i.e. : if my home country goes bonkers, I have both assets and a network in other countries where I can go and live my life there). I haven’t pondered yet the use of diversifying my investments over different countries without intending to have an actual bond with them as of yet, so my point of view holds probably few value in regards to your situation.

If I were trying to invest worldly, I’d try to differentiate if what I am searching is to boost my returns or to lower my risks. As an example, bonds, in a portfolio, usually reduce the returns but also lower the volatility. If investing internationally is meant to reduce my exposure to a concentration risk factor, then I should be willing to embrace periodically lower returns because my bet would be that, in some circumstances, those returns would outmatch those I’d get in my own country, which is the specific risk that I am trying to mitigate (if I was sure that my country is going to do amazingly well, then I’d have no use for international diversification).

If my purpose is to boost my returns, then I am performance chasing. In that situation, I’d invest in the U.S. (roughly 10% CAGR for VTI from 2010 to 2020 even with the loss of value from USD vs CHF vs roughly 8% CAGR for the SPI for the same time period) and drop both Pacific and Europe.

In other words, it seems to me that you are tilting your portfolio to adapt to some factor that you consider won’t change (CHF gaining value vs other currencies), which is the same, in my view, as tilting it because you’d consider that an economy (let’s say the US), or a sector (let’s say tech), or a type of companies (let’s say large cap growth) will outperform others in the future.

I’d say we have to choose between deciding that we have some data that we can use to actively tilt our investments or that “nobody knows nothing”, which is at the roots of passive investing. I’m personally diverging from the the pure global worldwide passive investing approach but it still holds its merits regardless of the strength of the CHF vs the USD or other currencies. Exchange rates variations look to me like one of those “don’t change your course” type of events.

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Hi Wolverine!

I think the argument for worlwide diversification is to find an efficient risk-return point. From this perspective it is the same thing to boost returns for a given risk or lower risks for a given return. I invest internationally because I think it is more efficient and (after adjusting the stock percentage accordingly) I get the same returns with less risk. That said, I understand your thinking.

I’m not saying computing the efficient frontier is easy. Also it is very sensitive to the chosen period and you will find 20-year periods where a single-country portfolio is on the efficient frontier, and another where it far away from it. When I have a doubt, I just pick diversity.

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I 100% agree. I’ve not personally spent the time needed to get a grasp of where that efficient frontier may be so my approach is mainly to ask myself “where do I stand?” “Am I happy with this?” and if not “where do I want to go from here, then?”. I’m happy with my current risk profile and returns so haven’t felt the need to put a high priority in studying international investing so I’ll defer to more knowledgeable people in regards to what the risk adjusted returns really are.

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I want to already thank you guys for the replies and cool discussion! I’ll get into it as soon as I’m back from the gym. In the meantime I calculated what this change of strategy would do to my region and currency weights, before and after:

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I’m very impressed that you can prepare such beautiful charts while at the gym! :slight_smile:

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Wasn’t there another discussion recently which proved that currency risks can be neglected because as soon as you’re invested in an asset you own parts of it which will automatically adjust for inflation too? (Iirc it was the discussion between a Vanguard ETF in EUR vs. CHF)

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Yes, was it this one?

But even for bonds or cash, currency hedging will not protect you against inflation though. You have to pay the interest rate difference instead, which is equivalent. Hedging only protects against short-term fluctuations.

The reason why stocks may be left unhedged is that they are already the risky fluctuating part of the portfolio, more than their resistance against inflation. But leaving bonds unhedged goes against the idea that they are for stability.

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It shouldn’t make much of a difference if the fund is issued in CHF, EUR or USD. But that doesn’t change the fact that you are investing in companies who use a different currency then yours - somewhere along the investment chain, you are holding non-CHF values which you will need in CHF again later in your life.

Personally, I don’t know a solution for this - the strong Chf historically makes investing for CH people more difficult imo, because (historical) it worked against your stock returns.

Am curious how CH-people who hold a few 100k in VT or similar for example think about this?

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Welcome Beisat!

On the positive side, the stability of CHF makes prices very stable. The only exceptions I can think of are rent and health insurance, but the reasons are completely different.

In other countries, stock returns may be higher but people also lose purchasing power every year. And a strong CHF also means you can buy a lot of US and EU stocks when you receive a salary in CHF.

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Maybe make sure to take a step back and double check you’re not reacting purely based on recent events.

I did notice quite a few posts in various forums along the lines of “I want to hedge now because the US stock market has such nice number but in my base currency they aren’t as great”.

To me those sound like people who just have some fear of missing out, one of the major reasons the US stock market is having those gains is because the USD is losing value. So with that in mind, why not go all-in and start playing/betting in the FX market (since that’s where the gains are).

(I didn’t see people have the reverse argument when the USD was going in the other direction)

The behavioral part of https://personal.vanguard.com/pdf/ISGPCH.pdf might be interesting as well.

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Yes, in addition to what nabalzbhf wrote, keep in mind that if the dollar gains value and the stocks go down, with an hedged fund you will lose twice (as the stocks and the CHF are both going down).

Keep in mind as well that the USD didn’t change much in the past 10 years (except for the last few months). It would be tough to stick to the strategy and losing 1% (or more) per year on the hedging for 10 years without visible benefits.

My point of view is that if the CHF raises I’m happy because I can buy at cheaper prices, if it goes down I’m happy because my net worth in CHF increases. Of course it depends much on how much you have accumulated.

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It works both ways - one side, your stock returns might be valued less in CHF, but on the other side with the time you can buy more assets abroad more cheaply with your CHF savings. It’s not an inherently worse position for investing than in (more) inflationary countries.

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I agree. And in my experience, what happens next is that once this is hedged, the dollar recovers (corrected of inflation) but one does not participate in the recovery. Somehow whenever I tried to time the market in my younger days, the market would always move in the worst direction no matter what I did. I remember @Cortana has the same experience :slight_smile: I learned my lesson. But not timing the market is not easy either. It can take a long time for the regression to the mean. It really tests your patience.

Better either be hedged all the way or not at all. Deciding to hedge one day to the next because of short term market movements is market timing.

It’s more important to stick to the strategy than the choice of strategy itself, if the strategy is sound.

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Do you have to make your investment decision based on what country you’ll be retiring to tough?

Of course I’d want to retire to a country with low crime rates and relatively high development indicators, such as a good health care system. These usually go hand in hand with a country’s economic prosperity - which, in turn, is often correlated to a rising strength in its currency.

But that doesn’t necessarily mean it’s the best investment opportunity, does it?

Take Japan, for instance. Potential language barrier and restrictions on immigration aside, it does seem as a good destination to retire, doesn’t it? It’s one of the safest, least crime-ridden countries in the world, and with one of the highest life expectancies in the world, the health care system can only be reasonably good.

Yet over the last 20 years, the Yen has lost half roughly of its value against the Swiss Franc - and the stock market hasn’t really done that great either. For the aspiring Japanese retiree, investing in Switzerland (= abroad) would, with the benefit of hindsight, have been a much better choice.

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That is true, as long as you are adding more to your portfolio.

In the end, it’s not uncommon to still have a lot of your net worth in CHF probably as well, e.g because of real estate or similar.

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