This has been a tough year for investors in international ETFs. Major unhedged international benchmarks like the EAFE are down significantly so far in 2018. Here are some thoughts as we near the end of 2018 for investors to consider.
A stronger dollar
Entering 2018, many thought the dollar would continue to show weakness on the heels of its roughly 10% decline in 2017.
In reality, through September 20th, the dollar was up over 3.5% for the year. Through October 18th the average foreign large blend ETF was down 8.76% year-to-date.
For unhedged US investors, the strength in the dollar has had a negative impact on unhedged international portfolios. According to a Bloomberg story, fewer US investors hold currency hedged investments. Looking at ETFs, Bloomberg wrote that these funds had seen substantial outflows over the previous nine months, catching investors on the wrong foot as the dollar rallied during the year.
A 50% currency hedge
This might be a time to consider a 50% currency hedge on international positions. This approach provides a cushion against dramatic dollar moves, up or down and, by softening the potential blow of unexpected currency volatility, helping investors stay committed to a long-term international allocation. This approach also addresses both the need to hedge the impact of currency fluctuations and the need to manage investor behavior.
For most of the last decade, U.S. equities, as represented by the S&P 500, have outperformed international developed markets equities as represented by MSCI EAFE. This hasn’t always been the case and relative performance tends to run in cycles.
This underperformance has continued into 2018. The strong dollar has not helped. Events like the Italian debt crises and the threat of a trade war have weighed on the performance of broad international funds as well.
As you look to year-end portfolio adjustments and perhaps take a hard look at your portfolio’s international allocation, it might make sense to hedge all or a portion of your international positions. A 50% currency hedge can enhance returns from the international allocation in your client’s portfolio via reducing currency-related fluctuations that impact return.
As we approach the end of the year, many investors and advisors will be looking to rebalance portfolios and possibly to do some tax-loss harvesting.
Many investors are looking at losses on some of their international positions and will want to use them to harvest tax losses and possibly offset gains elsewhere in their portfolio. As you are aware, you will need to avoid buying into another international holding that is substantially the same as what you sold to realize the loss.
While past performance is not an indicator of what will happen in the future, the IQ 50 Percent Hedged FTSE International ETF (HFXI) has outperformed most unhedged broad international ETFs since its inception. This ETF potentially provides an easy way to hedge developed market international positions all in one portfolio.