FX Fluctuations: How it can affect your investment portfolio
The ups and downs of global currency movements can affect how your investment portfolio performs, even if you do not directly invest in the FX market.
The forex market is a large and volatile investment platform, with trading volumes of over US$5 trillion a day. Given its highly unpredictable nature, it is most suitable for corporate and institutional investors who have the appetite for a high level of risk.
However, even individual retail investors who may not be directly exposed to the currency market may be vulnerable to foreign currency risk through their investment portfolio
Impact of FX movement on your portfolio
As an investor looking to build and enhance your wealth, you have multiple investment avenues to choose from, be it direct equity, mutual funds, exchange traded funds, bonds, structured products etc You can purchase your investments in various currencies for the purposes of gaining international exposure and diversification.
However, in the case of investment products that are valued in a currency other than USD, the income received from them, such as sales proceeds, interests and dividends may be prone to risks associated with currency movement.
Key to minimising FX risk on your portfolio
Since currency fluctuations can play a significant role in influencing the performance of your portfolio, keep the following pointers in mind when deciding on a foreign currency-based investment.
- Health of the economy
A country’s economy is a good indicator of the quality of its currency. A robust economy usually implies a powerful and stable currency as global investors are confident about the country’s future and are thereby keen to purchase assets denominated in that currency. So, do a check on a country’s economy before investing in its currency denominated products.
- Trading relationship
A country’s trading relationship with the rest of the world can also influence its currency. Typically, countries whose exports exceed their imports are likely to have stronger currencies due to the demand for their products. Hence, factor this in when making your purchasing decision for foreign currency-based investments.
- Interest rate scenario
A country’s interest rate environment may also reflect the future direction of its currency. Expectations of high interest rates automatically make the currency more valuable to investors whereas a possibility of low interest rates can make the currency less attractive.
Need for a long-term view
There is no doubt that currency movements are extremely uncertain, especially in the short-term. However, investing in foreign denominated assets can still be beneficial as it can offer a certain degree of diversification. For instance, investments spread across foreign currency assets can potentially help you offset a loss in one market with gains in another.
Also, in the long run, currency movements are likely to even out due to economic cycles.
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