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Investors favouring currency-hedged ETFs

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With commodity exchange-traded funds gaining global appeal, international investors are favouring currency hedged ETFs as they return to an asset class deserted last year, according to Markit.

As with any investment strategy, commodity investment carries its own set of idiosyncratic quirks. On top having to manage such dilemmas as physical versus synthetic delivery, ETF investors must also contend with the fact that the US Dollars’ status as a global reserve currency makes it the default global commodity currency. This ensures that commodity ETFs carry significant dollar exposure to any investors buying into non USD traded commodity funds.
 
ETF issuers have listed over 150 currency hedged products over the last four years. These aim to decouple currency fluctuations from commodity price movements in order to ensure that investors minimise the impact of holding dollar denominated currency.
 
Markit’s ETF data highlights that these funds track over 29 commodities and hedged funds accounted for over 60 per cent of the commodity fund launches last year.
 
The aggregate AUM for currency hedged ETFs stands at USD7.25bn, and makes up seven per cent of the total commodities ETP universe.
 
Gold and precious metals, the mainstay of commodity ETFs and dominate the list of the largest currency hedged universe with eight of the largest funds, led by the ZKB Gold and ZKB Silver ETFs which are hedged against movements of the Swiss Franc against the Dollar.
 
Despite holding seven per cent of the asset base, currency hedged ETFs have seen nearly 10 per cent of the USD2.5bn net inflows experienced by commodity funds over February.  This marked the end of a 10 month losing streak which saw USD37bn withdrawn from the asset class.
 
The recent rout in commodity ETFs has not spared currency hedged funds as these products collectively have seen USD1.6Bn of outflows over the last 12 months.
 
A non-precious metal tops February’s inflow list with UBS’s ETC on CMCI Sugar Hedged BGP product having experienced USD98m of inflows in February. Precious metals products only made up four of the top ten currency hedged commodity ETFs seeing the largest inflow over the last month.
 
While there is increased popularity for funds which minimise the unwanted currency swings, investors need to be aware of the extra cost associated with holding these funds against their unhedged contemporaries, says Markit.
 
To give an example, the ZKB gold ETP hedged against the Swiss Franc has a management fee that is 50 per cent higher than the unhedged cousin.
 
With the US dollar index holding steady over the last couple of years, one has to wonder whether the extra costs needed to cover the cost of hedging outweigh the benefits of protecting against swings which fail to materialise.

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