Another yuan bites the dust
With China finally joining the currency debasement party (in a small way to start), I thought it would be important to discuss currency and its impact on perception of returns.
Over the last 12 months the currency market has seen significant volatility and directional change. Of course, what makes currency so complex is that it is all priced relative to each other – there is no real common denominator. To further complicate things is the global reach of companies these days. For instance we have owned a French company that trades in Swiss franc with nearly half its business coming from the U.S. - how do we hedge that? It’s clear these days the impact of currency needs some deep thought.
Take a look at what markets have done in various currencies year-to-day through July 20, 2015:
A Canadian investor who bought European stocks at the beginning of this year is probably feeling pretty good about that decision, given that the Euro STOXX is up 17.2% in C$. However, investors buying the same stocks in the U.S. have actually seen only a 4.9% return, unless they decided to hedge out the currency exposure. Do U.S. investors who bought the hedged version of the European equity ETF know that they were really speculating on currency?
Again, currency is a difficult concept to master because it’s all relative. Sitting in Tokyo, where asset prices have skyrocketed since its QE, people are more confident and have a stronger sense of security as they feel wealthier than they were before the monetary experiment began. However, on a global purchasing power basis they are actually worse off.
We can look at this on a fundamental basis as well. When we review EPS for the MSCI World over the last four years, you can see there has been next to no growth:
Of course the MSCI world is calculated in U.S. dollars. In Canadian dollars, this is what has happened:
In Canadian dollars, we have seen high single digit compound growth! Taking into consideration the source of the growth, I don’t think we should be extrapolating it into the future.
What’s important to note is that currency isn’t a core skill for anyone in my line of business, but it has been a massive head wind or tailwind this year for fund managers (depending on your home market, where you invest and your approach to hedging). With continually changing monetary policy stances and relative battles on the economic momentum front, I imagine currency will continue to be a significant relative driver of performance into the future. What's important when investing is understand the source of performance for a company, a market or a fund and with currency such a dominating factor over the last year you have to be careful not to extrapolate recent results into the future.