InvestmentsApr 26 2013

Take 5: Investing in currency ETFs

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The evolution of ETFs over the years has seen previously exotic asset classes, such as commodities and currencies, made available to everyday retail investors.

While previously the domain of sophisticated traders with a forex account, nowadays almost anyone can hedge their bets on the foreign exchange (FX) market.

Currency ETFs can provide exposure to the high growth rates of emerging markets and commodity nations and, when used appropriately, can function as a useful diversifying tool as the pound continues to depreciate.

However, the volatility of this asset class is well documented and with a number of different strategies on offer within this growing sector, it is definitely worth doing your homework before investing.

Here are some things to consider when looking for currency ETF exposure.

1. Research the geopolitical structure of each country. Despite currency markets often being unpredictable, being aware of a country’s current situation and impending political and economic events can help to establish the potential direction of a currency.

2. Choose the right strategy. As the ETF market continues to develop, there is now a wide range of different strategies on offer. Some FX indices shift exposure and employ a range of derivatives, so make sure you choose the vehicle most suited to your clients’ needs.

3. Be aware of fees. Even though the majority of currency ETFs are passive, prices can vary considerably depending on the use of derivatives. Many currency ETFs go beyond merely tracking the daily prices of currencies and can therefore command a higher price tag.

4. Risk averse investors could consider cash ETFs. If your client requires a less volatile exposure to currency, there is also a range of cash ETFs in the market to choose from. These vehicles tend to involve holding a currency in bank deposit accounts.

5. Beware of leveraged exposure. Although it could significantly improve your clients’ returns, doubling or tripling your exposure to an index could also potentially result in big losses.

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