A rising Australian dollar has brought currency hedging into focus for advisers in a period in which many are increasing clients’ long-term exposure to global equities. But the question of whether they should adopt hedging strategies to protect portfolios from currency movements is not clear cut.

The AUD recently moved above USD$0.70 cents for the first time in three years due to a weaker greenback and the February increase in Australian interest rates. Forecasts for the local currency vary, with some predicting the AUD will reach the mid-USD$0.70 cent range in 2026, while others are less convinced and forecast it will be lower by year end.

Such differences in opinion are not uncommon in currency markets. Foreign exchange rates are difficult to forecast due to the wide range of macroeconomic factors that impact currencies. 

“While currency movements can impact investment returns at shorter investment horizons, there is little evidence that future foreign exchange rates can be reliably predicted,” says fund manager Dimensional.

For long term investors, that may not matter. Dimensional’s research shows that from 1985 to 2023, currency movements tended to provide a benefit to Australian investors just as often as they detracted from performance.

“Our analysis shows that hedging may be useful for investors who are sensitive to short-term changes in currency returns but is unlikely to impact their portfolio returns over the long term,” the fund manager says.

Stark difference

The returns from Vanguard’s global equity exchange traded funds (ETFs), which are some of the largest in the market, help illustrate the shorter-term impact of currency changes. The Vanguard MSCI International Shares ETF (ASX: VGS) returned 6.57% in the year to 31 January, compared to the 16.68% gain from its hedged equivalent – the Vanguard MSCI Index International Shares (Hedged) ETF (ASX: VGAD). 

However, that gap dissipates over 10 years. The Vanguard MSCI International Shares ETF returned 13.36% over the decade to January 31 versus a 12.59% gain from the hedged version of the same vehicle.

Dimensional’s analysis suggests that any decision to hedge currency should be strategic and driven by an investor’s own goals – rather than a snap decision based on a relatively short-term outlook for a currency alone.

Some advisers appear to already take this approach with the proportion of hedged international equity ETFs held by their clients on the AUSIEX platform steadily rising over time to approximately 12% of their global ETF holdings. By comparison, self-directed investors hold approximately 4% of their international ETF exposure in hedged vehicles. 

Dimensional’s analysis looked at annual currency returns from the perspective of an Australian investor with exposure to four major developed markets currencies: the US dollar, Euro, Japanese Yen, and British Pound. Overall, the realised currency returns across the different developed markets were positive and negative at a similar frequency. 

It says the fact that exchange rates are difficult to predict means investors should be cautious about making tactical hedging decisions based on the past or forecasted performance of the AUD. 

“Similarly, the decision to hedge or not hedge should not be based on the goal of reducing equity volatility,” it says.

“Equities tend to be more volatile than currencies … therefore, the volatility of an unhedged global equity portfolio is generally dominated by the underlying equity volatility rather than the currency movements.”

For investors sensitive to short-term currency movements, Dimensional acknowledges that hedging a portion of their portfolio and leaving the other portion unhedged may instead be a strategy worth considering.

Greater control

Advisers who trade direct global equities on behalf of clients can make more distinct decisions around FX transactions with a multi-currency wallet offered by AUSIEX. These wallets help advisers manage currency risk by allowing them to maintain cash holdings in chosen denominations over time.

Currency can be held and used to both fund purchases and hold the proceeds of any share sales. Dividends can also accumulate in a multi-currency wallet. The upshot is that a client doesn’t need to exchange currency every time they trade international equities, giving them greater control over when they convert foreign currency back into Australian dollars.

How AUSIEX can support your investment choice

Whether buying direct international equity or global equity ETFs, AUSIEX offers international markets and exposure pathways. Visit AUSIEX’s International Trading page or get in touch for more information.