EXPERT OPINION | CURRENCY AS A STANDALONE ASSET CLASS
Stuart Frost
portfolio manager
RWC Partners
At RWC, we view currency as a standalone asset class as it is a reflection of capital flows around the world and provides income through currency appreciation or interest rate differentials. Some would argue that currency is merely the conduit for commodity, equity or bond investing, but if the world wants to invest in Brazil then the Brazilian real will be bought and increase in value, and for many funds the only way to participate in that investment is to own the currency. In addition, the forward market in currency is just a reflection of interest rate differentials and that in itself presents investment opportunities. An example of this is Australian six month rates against US six month rates, where you are paid to hold Australian dollars and be short US dollars. The interest rate differential between the two is over 4.5 per cent, so any sudden weakness in the Australian dollar is highly unlikely to last too long as the cost to be short Australian dollars is very high.
Global bond funds, which are essentially long-only funds, see currency as a means to outperform their peers, simply by hedging or not hedging their country allocation in bonds. So, if you are invested in UK gilts out of US dollars and sterling falls, very often any capital gains in the gilt market could be wiped out by a fall in the currency.
Foreign exchange is a liquid asset and one that corporations, small businesses and asset managers need to respect to avoid unnecessary losses. This makes it as much of an asset class as equities or bonds.
Haig Bathgate
chief investment officer
Turcan Connell
We certainly class foreign currency as an asset class and it can have a very significant impact on the value of your investment, based both on the underlying denomination of the investment, translated back to your home currency (for this we will assume sterling) but also in relation to the underling trading activities of a company’s operations (around two thirds of the FTSE 100’s profitability comes from non-sterling sources).
When investing in funds, the underlying manager often states that they do not have a view on currency and they construct a portfolio based on what they refer to as the quality of the underlying company or bond – in most cases, the investor therefore suffers additional volatility as most equity funds do not hedge the currency (many of the fixed income/bond funds are hedged). If they or the underlying investor don’t have a view on currency, my strong view would be that they should hedge back to sterling. You could pick great performing companies/bonds that produce very good returns but all that could be lost in a currency translation – therefore, if you don’t have a view, hedge!
It is also worth noting that, in periods where you have a lot of uncertainty about the stability and finances of governments, currency can provide great returns if you forecast the outcome correctly. A currency can be viewed as the share price of a country and if, for example, you thought that emerging markets are likely to perform better than the likes of the UK and US, then currency is often a very efficient and cost effective way to express this view.