Are You Betting Against the Buck?

Are you nervous about the direction of the dollar, either over the short or long term? Have you taken steps to diversify your portfolio's currency exposure away from the greenback?

If so, you're far from alone. Investors have sent $33 billion of new assets to world-bond funds over the past year, an amount that represents 20% of the total assets in the group, according to Morningstar's fund-flow data. Foreign currency funds--mainly available in the exchange-traded fund sector--have also garnered investor interest. Designed to deliver a cash return plus whatever amount a given foreign currency appreciates or depreciates versus the dollar, currency ETFs have gained $1.6 billion in new assets for the year to date, with particularly robust flows into funds such as  CurrencyShares Swiss Franc (FXF).

But not all Morningstar.com investors have made bets on specific currencies, according to a recent discussion thread in the Market Insights section on Morningstar.com's Discuss boards. Rather, most posters noted that they've delegated foreign-currency decision-making to their world bond or foreign-currency managers. Others are satisfied with the foreign-currency exposure they obtain through their equity holdings. To read the complete thread or share your own views, click here.

Looming Concerns About Euro, Dollar
Among posters who weighed in on the future direction of various foreign currencies, the euro, rather than the dollar, seemed to be top of mind. That's probably no surprise given that the Greek debt crisis was making headlines again this past week.  

Valueinvestor32 is sanguine that Greece won't default, writing, "I'm still long Europe. I don't have a crystal ball, but I do posses a strong conviction that a Greek default at this juncture (or even a year in the future) would send the whole eurozone into a multiyear recession and wipe out the common currency.

"It's easy for a few naysayers in Germany to propose structured default as an answer, but it's clearly the worst of all possible alternatives. And I don't think anyone in a serious leadership position would ever play such a risky card. The cost of bailout really isn't all that high in comparison to the cost of complacency."

Roger in SF, meanwhile, is less optimistic about the eurozone's prospects, pointing to the precipitous decline in European banking stocks, many of which have been cut in half--or worse--during the past few months, as a harbinger of even more ominous things to come. "The message is clear: The large European banks are at risk from Greece and there is accompanying systemic risk. You only have to recall 2008 to understand how this could turn out."

Roger in SF also is not upbeat on U.S. dollar-denominated bonds. He wrote, "Perhaps inflation will remain contained in the face of the trillion dollar deficits promised for the next decade. History argues otherwise. The potential of a one-two punch from rising interest rates and inflation should give investors in U.S. bonds pause."

Poster jnjpascale is also concerned about the prospects of a dollar devaluation. "I think Morningstar discounts the risks of a currency devaluation and high levels of inflation that we may face. Some of the respected experts out there feel that it could be one trigger out there that could start a dollar devaluation." 

'Letting the Fund Managers Do the Rest'
Despite a desire to diversify away from the dollar, few, if any, posters indicated that they're taking active, direct bets on various foreign currencies.

Chief K wrote, "No I don't attempt anything on currency plays. I figure the 'sucker' on the other end of any exchange is a team operation running 24/7 with high-speed data links to major banks and exchanges worldwide."

FidlStix concurred, "I'm not smart enough to win consistently through active currency hedging. I am smart enough to not even try! I suspect most investors who hedge their currency exposure do not in the long run come out ahead by hedging. I'll gladly leave positioning to fund managers who know how to do it and to the hotshots who think they know how."

Pandg12 is on the same page "The short answer is we run a globally diversified portfolio and invest in active international stock and bond funds; letting the fund managers make the decisions. It takes time and devotion to learn and keep up with trading in currencies. We concentrate on maintaining our current allocation and letting the fund managers do the rest." 

Several posters noted that they've sought diversification away from the dollar by venturing into a broad-basket world-bond or foreign-currency fund.  

Jnjpascale has identified a few favorites that may provide protection in the event of a dollar devaluation, noting, "I am ready to go into Merck Hard Currency  if conditions worsen. I would like to put some of my money with PIMCO as the firm seems to be up on this as well as about anyone. I wish these funds had lower expense ratios, though. I already have diversified by investing in  WisdomTree Emerging Markets Local Debt (ELD), with a heavy dose of international funds and investments in silver and gold."

Don1939, too, is building his foreign-currency stake slowly and also likes the Merk offering. "I have been tip-toeing into Merk Hard Currency fund. I am glad to see the fund is cutting its exposure to the euro, and I will continue to buy this fund on weakness. At this point it appears the dollar has bottomed--a case of being the best horse on the way to the glue factory. Or as Bill Gross puts it 'the cleanest of the dirty shirts.'  Permanent Portfolio (PRPFX) is another holding that has exposure to Swiss franc. These two funds represent 2% of my portfolio." 

The 62 Dawg noted that he's leaving his foreign-currency positioning to the pros, saying, "I subcontracted my currency positioning to Templeton, Merk, and PIMCO. Their currency knowledge and resources are infinitely greater than mine."

Retired at 48 also likes the concept of exposure to foreign currencies but notes that he takes comfort when managers have the ability to hedge away from those currencies when they see fit. "For fixed income, I desire local currencies. Again, the yield return is a balance to the U.S. dollar. However, in one of my funds, DoubleLine Emerging Market Fixed Income (DBLEX), the manager has the option to hedge local currencies, or not. This year the manager, Luz Padilla, has opted to go with dollar denominated versus local currency, and, with the strengthening dollar, that has been a good move by Padilla. So I stick with her managing decision."

Managing Foreign-Currency Exposure Via Equity Funds
Although the aforementioned posters like world-bond and currency funds, other posters noted that they've gained foreign-currency exposure--and managed it--via their foreign-stock holdings.

For example, Valueinvestor32 wrote, "I've been actively tilting toward currencies in countries with a trade surplus. That said, I'm a little wary of equity prices. Assuming that other market participants are running the same strategy (which they are) those markets might be a bubble waiting to happen. It's a good near-term to medium-term play, but long term, I'd be a little more cautious.

"I also took advantage of the European Debt Crisis Round I to take a long position in European equities in the hopes that valuations would rise with the rising currency. I had studied the Korean market in 2008-09, and saw how the strengthening Wan made the Korean equities behave like a slightly leveraged investment, but without taking on the risk of actual leverage. Needless to say that the strategy worked and the portfolio returned around 30%, but being a long term investor (and a slightly greedy one) I held onto all of these positions. With the onset of Crisis Round II the portfolio is slightly in the red (excluding dividends.)"

Poster mgriv123, meanwhile, rightly notes that many multinational firms have trading desks whose job it is to mitigate the impact of currency fluctuations on their company's earnings. He wrote, "Generally speaking, in my portfolio I have gravitated to U.S.-listed large-cap blue chips with an international presence, such as your typical  Procter & Gamble (PG),  PepsiCo (PEP),  General Electric (GE),  Abbott Laboratories (ABT), and so on. Given the large number of countries involved in their operations, most of my portfolio currency hedging is 'outsourced' quite competently to their finance departments."

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