The benefits of hedging are:-
1. Eliminate Risk Over the Long Term
Suppose you own a U.K.-denominated fund. Your investment objective is to own companies based in that country that perform well. The exchange rate between the dollar and the pound will change over time, based on economic and political factors. For this reason, you need to hedge your currency risk to benefit from owning your fund over the long term.
2. Foreign Stocks Add Portfolio Diversity
You want to own companies in the United States and in foreign countries to properly diversify your portfolio. For example, frontier and emerging markets are attractive to investors who want to take more risk and achieve higher returns. Since most investors use foreign-based investments, they can reduce their risk exposure using currency-hedged ETFs and mutual funds.
3. Forward Contracts
Many funds and ETFs hedge currency risk using forward contracts, and these contracts can be purchased for every major currency. A forward contract, or currency forward, allows the purchaser to lock in the price they pay for a currency. In other words, the exchange rate is locked in place for a specific period of time.
However, there is a cost to buy forward contracts. The contract protects the value of the portfolio if exchange rates make the currency less valuable. Using the U.K. example, a forward contract protects an investor when the value of the pound declines relative to the dollar. On the other hand, if the pound becomes more valuable, the forward contract isn’t needed.
Funds that use currency hedging believe that the cost of hedging will pay off over time. The fund's objective is to reduce currency risk and accept the additional cost of buying a forward contract.
4. Hedging Large Currency Declines
A currency hedging strategy can protect the investor if the value of a currency falls sharply. Consider two mutual funds that are made up entirely of Brazilian-based companies. One fund does not hedge currency risk. The other fund contains the exact same portfolio of stocks, but purchases forward contracts on the Brazilian currency, the real.
If the value of the real stays the same or increases compared to the dollar, the portfolio that is not hedged will outperform, since that portfolio is not paying for the forward contracts. However, when the Brazilian currency declines in value, the hedged portfolio performs better, since that fund has hedged against currency risk.
Political and economic factors can cause large fluctuations in exchange rates. In some cases, currency rates can be very volatile. A hedged portfolio incurs more costs, but can protect your investment in the event of a sharp decline in a currency’s value.
We commenced currency broking business in year 2008 and over the years have provided services to a lagre number of export and import houses and people dealing in foreign currencies. We Provide currency traders with access to a trading platform that allows them to buy and sell foreign currencies. We are also known as trading brokers, or forex brokers, & handles a very small though significant portion of the volume of the overall foreign exchange market.