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ETF Specialist

Currency-Hedged ETFs Still Popular

Just don't use them for short-term, market-timing bets.

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Generally speaking, most international-equity funds do not hedge their foreign-currency exposure. During the last few years, major foreign currencies such as the yen and euro have been falling against the U.S. dollar, and this has negatively impacted the performance of funds that invest abroad. Currency-hedged exchange-traded funds are relatively new products that provide the returns of foreign-equity markets without the impact of currency fluctuations. So when other currencies are falling against the dollar, currency-hedged ETFs will likely outperform their currency-unhedged peers. Conversely, when foreign currencies rise against the U.S. dollar, a currency-hedged ETF will likely underperform its currency-unhedged peers.

The major currencies tend to move in cycles, so over the long term, these fluctuations tend to net out. As a result, currency-hedged and currency-unhedged portfolios will have very similar returns in periods of 10 years or more. But currency movements are a source of volatility within an international-equity fund, so currency-hedged portfolios are somewhat less volatile relative to their unhedged peers.

Patricia Oey has a position in the following securities mentioned above: DBEF. Find out about Morningstar’s editorial policies.