Hedging Currency Risk (Part 3)

Hedging Currency Risk (Part 3)

I know many of you will be just dying to know the results of my currency hedging experiment (part 1 and part 2), well here they are! The demo accounts have expired so I can no longer compare all three.

Starting sum: $10,000
GBP/USD spot rate: 1.52438
Starting sums value: £6,560

Finishing sum: $10,000
GBP/USD spot rate: 1.50851
Finishing sums value: £6629

Change in value: £69

For each of the hedging methods I will show how they performed in £ net of all charges. They will also include slippage, as you can’t put on the hedges at exactly the same time. When we are talking of small differences like £69, slippage can make a big difference!

1. Forex trade

Net profit: -£81

Excluding costs this returned -£68 which is to be expected as it is simply tracking the spot rate. The fee’s behind FX are quite opaque and I can’t figure out how my broker has calculated these. But they are clearly high.

2. Futures trade

Net profit: -£61

Futures have costs ‘built in’ to the price so to speak so there were no actual dealing costs as I’m using CFDs. I am curious how this would have performed in the other direction, i.e. if my actual $ holding had lost value and the hedge had been required to offset the loss. As it stands I actually made £8 overall (69-61).

I am going to try and leave this trade open for longer as I’m curious how it correlates long term. I am also hoping that it will turn around into a profit so I can see how the numbers compare when the currency moves against me.

3. Spreadbet

Net profit: -£55

On the face of it, I came out of this better in the spreadbet BUT this also shows that the spreadbet didn’t track the underlying FX movements as well as the other methods. I am not sure of the reason for this, it could be my position size was too small, or that the spreadbetting company just didn’t track the future contracts price well.

Conclusion

From these three it is clearly a choice between futures trading and spreadbetting. The fact that the spreadbet didn’t track well even though the position size was theoretically correct is enough for me to discard it as a sensible option.

This leaves me with the futures trade, which as I said I am going to leave open to see how it performs long term. It seems that the hedge wont lose money overall if the currency moves in my favour which is good, so it remains to be seen how it offsets an adverse movement.

Trading the futures via CFDs also has an added benefit, in that you can use shares in the trading account as collateral for the trade. With spreadbetting, you need to deposit cash to cover the margin requirements. There is an opportunity cost there, and also the risk of margin calls.

Now that I have found my preferred method of currency hedging, it is time for the most important decision of all. Should I hedge my portfolio? In my next post I’ll be looking at the GBP/USD historically to assess whether I think a hedge is sensible or if I am willing to accept the risk.

CLICK HERE TO VIEW PART 4

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Investing Sidekick

Founder of Investing Sidekick. Works as a research analyst and is an avid value investor, always searching for undervalued shares. An SA certified writer.

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