The Currency Question

The Currency Question

The benefits and drawbacks of currency hedging seem to be in perpetual debate. It is inevitable that Canadians who see the benefit of globally diversified portfolios will find their portfolio returns affected by currency movements. The question is: to what degree and in which direction?

In this quarter’s newsletter, we look at the impacts of currency on both U.S. and International equities in an attempt to provide definitive guidance for Canadian investors.

Short-term pain

Given that foreign currencies can depreciate and, as a result, reduce investment returns measured in Canadian dollars, this depreciation should be considered as a potential risk factor. Should investors with globally diversified portfolios always hedge the currency exposure back to Canadian dollars? With an implied message that hedging makes investment funds safer, many fund management companies in Canada market their funds to investors with the promise of hedging the currency exposure1. It is possible to measure whether hedging reduces risk and it appears, from time to time, that unhedged investors have experienced negative, short-term returns due to currency.

Reviewing the year-over-year effect of currency changes on U.S. assets (Chart 1), it is easy to understand how disappointed Canadian investors felt with their U.S. investments in 2003, 2007 and 2009. The strengthening Canadian dollar caused unhedged U.S. dollar investments to be worth at least 15% less in each of these years.

Long-term gain

While short-term swings due to currency can be large and sometimes negative, these swings do not align with the investment horizon of serious, long-term investors. To understand the impact of currency on patient investors, we have analyzed the effect on returns of hedging currency across multiple timeframes (Tables 1 and 2).

Based on this analysis, it is clear that over longer time periods the impact of currency is muted. This is particularly important for Canadian investors to remember, as in 2016 they experienced negative effects from currency (Tables 1 and 2). Yet in the 5-year, 10-year, and since inception time periods shown, the impact of U.S. and foreign currency exposure actually has been slightly positive.

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Inquiries or comments concerning this article may be addressed to:

Marshall McAlister, cfa
Private Wealth Counsellor, Principal
Pavilion Investment House, a division of Pavilion Advisory Group Ltd.

Cary Williams, CFP
Associate Private Wealth Counsellor
Pavilion Investment House, a division of Pavilion Advisory Group Ltd.


The information contained herein is for information purposes only and does not constitute investment advice. Any investment advice provided by Pavilion Investment House will only be delivered pursuant to the terms and conditions contained in an Investment Counsel Agreement. The information provided is based on asset class, security, and investment data and projections that are generated by Pavilion Investment House using 3rd party sources, assumptions, models, and methods that are consistent with investment industry standards and are partially based on specific expectations and assumptions made by Pavilion Investment House. Although Pavilion Investment House takes all steps to ensure that it presents information for which it has reasonable basis and grounds, there can be no warranty, guarantee, or assurance, implicit or otherwise, that the projections contained within this presentation will occur exactly as stated. Where historical statistics are used, they are used for illustrative purposes only. Historical performance is not to be construed as being indicative of future performance. Historical statistics use publicly available index or mutual fund returns (where appropriate) and may not include all fees or taxes associated with implementing an equivalent strategy. © 2017 Pavilion Advisory Group Ltd. No part of his publication may be reproduced in any manner without our prior written permission./small>