- The dollar’s recent weakness could be the start of a multi-year currency reversal.
- Equity exposure through currency-hedged vehicles may prove detrimental for international and global equity investors if the dollar’s weakness continues.
- Currency-hedged strategies could subtract a meaningful portion of total return.
The dollar’s multi-year strength appears to be winding down — a warning to advisors that hedging strategies that have worked for so long could not only lose their effectiveness, but actually hurt returns the next few years.
Currency effects can make a big difference in returns, which means hedging at the wrong time can subtract significant portions of international equity returns. Recent history highlights how investors who hedge currency risk with international equities miss out on a significant boost to returns during dollar weakness. During the 2005 to 2008 period, the most recent extended period international stocks outpaced U.S. stocks, annualized currency returns reached 3.2%, which was more than a third of the total annualized return during the period, as shown in the chart below.
International Equities Get an Extra Boost From a Weak Dollar
The longest periods that international stocks have outpaced U.S. stocks: