Tuesday, June 9, 2009

Myth of currency risk with ETF

Almost all of the ETF listed on SGX are denominated in USD currency. Then there are many times when investors including me in the beginning have misconceptions that our investments in ETF can be depreciative due to the perceived declining USD currency in the long term.

The above myth is definitely not true. For example, let us take a look at Lyxor China Enterprise (HSCEI) listed on SGX. This ETF actually tracks China companies that are listed on the Stock Exchange of Hong Kong. Since this ETF is tracking the HSCEI index which is denominated in Hong Kong Dollars (HKD), the base currency of this fund is also in HKD. Therefore investors holding this ETF will only be exposed to the currency fluctuations of the HKD.

The USDSGD fluctuations are redundant to an investor point of view if an investor is keeping his money in the ETF. He faces risk of USD currency if he chooses to sell his ETF in USD currency. If an investor home currency is in SGD, then the currency exposure that one has to face is the SGDHKD pair with regards to this Lyxor HSCEI.

Below is an attachment of a typical transaction involving Lyxor HSCEI. The return in SGD of this ETF for a particular period is compared against the return of HSCEI index in SGD for the same period. You can see that the returns are exactly the same even though the ETF is denominated in USD. Therefore the SGD money that you bought into Lyxor HSCEI will yield the same return if you use that money to buy into HSCEI index.

Comparison of Lyxor HSCEI and HSCEI Index

A reason as to why Lyxor chooses USD as a denominated currency for their ETF on SGX is because of the requirement set by SGX in wanting Singapore to become a regional financial hub. Lyxor is working with SGX to prepare a dual currency listing of their ETF. However there is no mentioning of the time frame as to when that will happen. When that happens, investors will suffer less exchange losses when their money is invested into local ETF.


Anonymous said...

Your article is not entirely correct.
HKD is pegged to USD at a fixed exchange rate of 7.8 HKD to 1 USD. If USD depreciates against SGD, HKD will also depreciate in the same magnitude. Investing in HK stocks definitely exposes one to fluctuations in the SGD/USD rate. Only if HK chooses to scrap the peg(and I believe they will eventually do so), will be exposed to a different dynamic.

Mike Dirnt said...

thanks for pointing that out. i was not aware of the pegging. if there is no currency pegging, then the concept should apply to the other ETF