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moneysense.ca, 4/06/09
Currency Effects of Buying Foreign Stocks or ETFs on US Exchanges
EFA ($US) Jan. 2008 = $78.22; Jan. 2009 = $44.86; Down 42.6%.
1 $US to $CDN Jan. 2008 = $0.9927; Jan. 2009 = $1.2246; Up 23.3%.
EFA ($CDN) Jan. 2008 = $77.65; Jan. 2009 = $54.93; Down 29.2%.
TD e-Series International Index ($CDN) Jan. 2008 = $12.34; Jan. 2009 = $8.57; Down 30.6%.
Again, notice the similarity between the EFA returns in Canadian Dollars and that of the TD e-Series Fund.
moneysense.ca, 4/06/09
I’m not an economist nor am I a currency trader and I don’t want to pretend like I know what currencies are going to do in the short and medium terms… And as much as we like to complain about our governments handing out billions of loonies in bailouts to the auto companies… It is really a drop in the bucket compared to what the US government has been shelling out to save their banking & automotive sectors. The TRILLIONS that they’ve been shelling out can’t possibly be good for their currency and conventional wisdom would think that it may come home to roost at some point down the road. I believe that we are in unprecedented times and we have no historical guide as to what is going to happen, but in my opinion, it can’t possibly be good. So, the big question is – what is going to happen to Canada when our biggest trading partner gets slaughtered by whatever the unknown future problem turns out to be? Heck if I know. Is it better to be in Canadian or US dollars when this happens? Heck if I know. Will precious metals or other commodity prices hold up? Heck if I know.
Thanks for the interesting post.
In the example shown, the CAD/USD exchange rate is almost identical at the beginning and at the end.
A more illustrative example might be to look at the effect of holding these two investments (EFA and the TD e-Series Fund) over a period where the CAD/USD exchange rate is much different before and after. This would illustrate how large CAD/USD fluctuations don’t affect the returns from international holdings held in USD or CAD denominated funds.
I don’t know either. But it seems to be a common confusion that ETF that trade on US exchanges that hold European, Japanese and other foreign stocks are affected by the CAD/USD fluctuations. They are not. They are, instead, affected by the fluctuation of the CAD with whatever local currency the stocks are trading in.
If the USD does go down the tubes, would the Bank of Canada stand idly by and watch the CAD appreciate tremendously vis-a-vis the greenback. I don’t think they will.
Also, it seems unfathomable now, but could the CAD go down the tubes? It could. When Quebec separatism was a huge threat, the CAD was affected negatively. Who knows what the future will bring?
Geron: I’ve updated the post with two more examples. In one instance, the CAD was up sharply and down sharply in the next. The EFA returns tracks that of the TD e-Series International Fund in both (not perfectly but that could be due to any number of factors but over time, close enough). Thanks for the idea.
Thanks for the link and great follow up post especially the last two examples in which the funds moved down regardless of whether the USD moved up or down vs CAD. I wonder if the difference between the e-Series and EFA gets bigger the more violent are the currency swings. From your examples, it was 0.7% in the stable 2006-07 year but 1.4% each year in volatile 2007-09 … and EFA performed better.
@CanadianInvestor: I wouldn’t read too much into the slight differences in yearly returns. TD e-Series is a mutual fund and as such is valued precisely at the NAV based on the closing prices of its holdings in exchanges in Europe, Japan etc. EFA trades on the NYSE and its trading price could vary significantly from the NAV because foreign markets are closed and EFA is still trading. According to iShares, EFA’s premium/discount to NAV has varied between 8.61% to -7.35% in the last quarter of 2008. So, in comparing the ETF to a mutual fund, I’m looking for approximately close annual returns. I don’t expect them to be perfectly aligned.
Of course, for long-term investors, these fluctuations are mere noise. The 2007, 2008 differences may be high simply because markets were more volatile in that period. It’s just a guess though.
I tried to look at it from a little bit different perspective. Basically I tried to prove that at any given point the exchange rate between CAD and other than the US currency (I tried Taiwanese dollars and Hong Kong dolllars) is the same as converting to the US dollars first and then to the other currency.
I took the data from Yahoo Finance as of June 1, 2009:
CADUSD 0.92
CADTWD 29.66
CADHKG 7.12
USDTWD 32.31
USDHKG 7.75
1 CAD -> 0.92 USD -> 29.73 TWD (difference 0.07 TWD)
1 CAD -> 0.92 USD -> 7.13 HKG ( difference 0.01 HKG)
So it shouldn’t matter what happens with the currency “in the middle” (USD in this case), the exchange rate between CAD and the “other” is what actually matters.
[...] Canadian Capitalist explains away some misconceptions about holding US listed securities with exposure to international companies – specifically the misconception about which currency fluctuations you are exposed to. [...]
[...] Canadian Capitalist discusses the currency effects of buying foreign stocks or ETFs on US exchanges. [...]
Good article clearing up a common misconception.
I would add two reasons why holding international assets (ETFs) in a US dollar denominated account makes a lot of sense
1) Access to very low MER exchange traded funds (ie. Vanguard).
2) The CAD/ USD exchange rate has tended to move in synchronization with the markets (an up market day is almost always an up day for the Canadian dollar). If you can separate the day you sell an equity, from the day you repatriate into Canadian dollars you can often squeeze out an additional 2 or 3% return.
[...] Canadian Capitalist explains the currency effects on ETF’s. [...]
You know, this is the only place anywhere that I’ve ever seen this attempt to be explained…. and I have done some reading…. I follow your own example, i.e., the first half of the article, but Dave’s examples are a bit confusing – I’ll have to read those again.
Basically I can see how your own example is correct, but that was in a case where both the Yen and the USD went up against the loonie, so it had a “good” currency effect, so to speak. If the Yen were to drop severely I think it would still have a negative impact on the Canadian’s return/value.
But this is a really important question I’ve been wondering about, ie., in relation to the US dollar. For thought experiment purposes, say I own Honda ADRs in US dollars and the dollars are becoming severely inflated, so that they fall sharply in relation to the Yen (let’s say). How does this play out on the Canadian end if the greenback has also fallen against the loonie?
Ha – I guess I should also read all of the other comments – all I wish is that Canada would start to decouple more of its trading from the US – we need to diversify our trading partners. It’s silly to be so tied to one and subject to most of its troubles.
I was just reading about the Claymore CWO Emerging Markets ETF which hedges the US/CAD, but leaves investers exposed to the exchange risk between the various emerging markets and the US$.
I know very little about exchange risk but based on the above entries, does this not mean CDN investors are actually at a greater exchange risk by this strategy?
[...] Canadian Capitalist. Currency effects of buying foreign stocks or ETFs on U.S. exchanges. “ETFs that hold foreign stocks or foreign stocks trading on U.S. exchanges do not expose you to CAD/USD fluctuations.” [...]
[...] I’ve looked at the tracking error of S&P 500 currency-neutral funds in past years but the tracking errors in the iShares CDN MSCI EAFE 100% Hedged to CAD Dollars Index (TSX: XIN) remained a mystery because I didn’t have the annual return data for the MSCI EAFE Index* in local currency. XIN holds the iShares MSCI EAFE Index fund (NYSE Arca: EFA) and hedges the foreign currency exposure so that the returns of stocks will not be impacted by changes in the exchange rates between Canadian Dollars and Yen, Pound, Euros and other currencies. (As an aside note that even though EFA trades in the US, Canadian investors holding EFA are not affected by fluctuations in the exchange rate between the CAD…). [...]
[...] well losing 8.7 percent. Since half the value of the Sleepy Portfolio is denominated in US dollars (note that though VEA and VWO are denominated in US dollars, Canadian investors are exposed to curren…) , the loss in value of the Canadian dollar helped cushion the steep drop in stock values. As of [...]
[...] Canadian Capitalist. Currency effects of buying foreign stocks or ETFs on U.S. exchanges. “ETFs that hold foreign stocks or foreign stocks trading on U.S. exchanges do not expose you to CAD/USD fluctuations.” [...]