I’ve written multiple times in the past (for example, see A Foolproof method to convert Canadian dollars into US dollars) about using the Horizons U.S. Dollar Currency ETF (DLR) and its US$ denominated sibling to convert Canadian dollars into US dollars or vice-versa. Reader Northern Raven noticed a curious anomaly in the exchange rate implied by DLR/DLR.U compared to other inter-listed stocks such as Research in Motion (TSX: RIM, NASDAQ: RIMM), Potash Corp. (TSX: POT, NYSE: POT) etc. For some reason converting Canadian dollars into US dollars using DLR/DLR.U is about 15 to 18 basis points cheaper than the alternatives:

Horizons US Dollar Currency ETF (TSX: DLR, DLR.U): $0.9946
Barrick Gold (TSX: ABX, NYSE: ABX): $0.9928
Potash Corp. (TSX: POT, NYSE: POT): $0.9929
Research in Motion (TSX: RIM, NASDAQ: RIMM): $0.9927
TD Bank (TSX: TD, NYSE: TD): $0.9929

Of course, this also means that converting US dollars into Canadian dollars using DLR.U and DLR is more expensive. In fact, the penalty is much higher than the advantage and averages about 50 basis points:

Horizons US Dollar Currency ETF (TSX: DLR, DLR.U): $1.0021
Barrick Gold (TSX: ABX, NYSE: ABX): $0.9968
Potash Corp. (TSX: POT, NYSE: POT): $0.9970
Research in Motion (TSX: RIM, NASDAQ: RIMM): $0.9973
TD Bank (TSX: TD, NYSE: TD): $0.9971

I don’t know why DLR/DLR.U is cheaper and DLR.U/DLR is much more expensive than inter-listed stocks. But it does suggest that investors converting Canadian dollars into US dollars should likely prefer to use DLR/DLR.U and investors converting US dollars into Canadian dollars should likely prefer inter-listed stocks. I also don’t know if this anomaly will continue to persist in the future.

This article has 9 comments

  1. Very interesting. Did you do this check over multiple days/weeks to see if it is always like that or maybe it reverts depending on which currency is worth more?

  2. That’s a curious one. I had just assumed that efficient markets would take care of these things, but this appears not to be the case. As ever, it seems to be buyer beware when it comes to currency conversion.

  3. @Chris: I took three snapshots over the past three weeks at random times. The numbers reported here averaged over those observations but the differences were consistent. 20 basis points advantage in converting DLR/DLR.U and a 50 basis points deficit in the other direction.

    @Michael: I’m guessing that the low volume of DLR is the reason for this anomaly persisting. Another reason could be the cost of trading is more than the arbitrage opportunity here. But I really don’t know.

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  5. @Michael: arbitrage must take care of things like this, or else CC has just discovered the mythical Money Pump.

  6. I’m wondering what the tax implications of using DLR and DLR.U to convert between CAD and USD are. What I’m thinking is basically as follows:

    Say I buy DLR for 10.00 CAD (i.e., 1 CAD = 1 USD neglecting bid/ask spread and commission issues)

    Trade settles 3 days later, when I sell DLR.U. At that time, 1 CAD = 0.98 USD. For tax purposes,
    my adjusted cost base was 10 CAD, but proceeds from sale are 10 USD which is now 10.2 CAD.

    It seems to me cra will say I made a 2% capital gain and tax me on it. Of course there could have been a
    capital loss as well had the exchange rate gone the other way.

    Is the above reasoning correct?

  7. Question: We buy DLR and sell it after settlement (T+3 days). The exchange rate obviously changes during these three days. Are we actually converting our dollar at the exchange rate of the buying time (T) or selling time (T+3)?

  8. Can I use DLR/DLR.U to convert CDN $100 K to USD?