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Currency Exposure: Hedge or No Hedge?

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Turmoil in global currency markets is causing more investors to think about how such fluctuations impact the performance of their stocks.

Aggressive monetary policy by global central banks has led to the fast depreciation in certain currencies.

Over the past year, the Brazilian real has slid 43%, the euro has fallen over 20%, and the Japanese yen has fallen almost 15%. As a result, more investors are deciding to invest globally, but with hedged currency exposure.

One of the top currency-hedged ETFs is the WisdomTree European Hedged Equity Fund (HEDJ). The fund offers exposure to European stocks ex-euro currency exposure. In February, the fund surpassed $10 billion in assets.

“There is uncertainty about the future of the euro, and there could be more volatility to come. We believe this makes Europe an attractive place to neutralize currency exposure. A weakening euro may help boost the competitiveness of European exports, an element HEDJ seeks to take advantage of through its exporter tilt,” said Luciano Siracusano, WisdomTree’s chief investment strategist, in a statement.

Over the past year, HEDJ has gained 24.6% versus a 2.4% decline for the unhedged Vanguard European ETF (VGK).

Although currency hedged ETFs are the rage, advisors should keep the following in mind:

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1) Traditional index ETFs that invest in foreign securities offer U.S. investors both securities diversification and unhedged currency diversification; both types of diversification are something most people need in their portfolios.

2) Holding a foreign-currency hedged ETF like HEDJ, will eliminate the benefits of international currency diversification and increase a U.S. investor’s exposure to the U.S. dollar.  

In the context of portfolio management, currency-hedged ETFs are strategic instruments vs.core holdings. That means the positions must be managed instead of bought and forgotten.

Eventually, when poorly performing foreign currencies begin to strengthen against to the U.S. dollar, currency hedged ETFs will lose their luster. Until then, the trend is your friend.

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Ron DeLegge’s is founder and chief portfolio strategist at ETFguide. Join his next free monthly Portfolio Workshop for financial advisors.