Thursday, 25 July 2013

Investment review: Did my exchange rate idea work out?

Approximately 18 months ago I did a post on the exchange rate opportunity that could be exploited using foreign index funds because the Australian currency was so strong coupled with extremely weak share markets overseas.   I also ran through a very specific example of an investment I had made in the FTSE100 which was to take advantage of the weak pound as well as the weak English share market.

This post will be a review of that idea 18 months down the track, along with an assessment of how I thought about the investment along the way.

So how did it turn out?

As it turns out, this was a rather good investment to make and I have been very pleased with the results.  The chart below shows the performance of the investment over time.

Performance of the index
The blue line is the performance of the index fund (ISF) in pounds.  In the circa 18 months that I owned it the index returned 16.3% plus another ~2% in dividends over that time so approximately 18.3% return over 18 months.  This is annualised return of ~11.8% which I am very happy with in itself.

Performance including the currency effect
However the kicker (and the original point of the investment) was the return benefit that the exchange rate would give when it returned to 'normal' levels.  It has not yet returned to normal levels but it is certainly going in the right direction.  The A$ depreciated by 9.7% against the GBP in the 18 months.  This resulted in a total A$ return on the ISF investment of 27.6% before dividends or ~29.6% after dividends over the 18 months.  This is an annualised return of ~18.8%.

I had no idea that the performance of the UK share market would be strong over that period, the real underlying reason was that the currency gave me protection on the downside and provided significant upside in the event that it returned to normal levels.

...however during the investment period it did not always look so happy!

The chart below shows the return on investment over time.  The red line represents the A$ performance of the investment and the blue line represents the GBP performance of the investment.

For the first few months of the investment, it did not seem to be a great investment.  Indeed the share price was not really going anywhere and the currency movements made me think I had missed the boat at times.  However I had in mind what I thought a fair price for the currency was so I continued to wait and of late, even though the share price has come off significantly in GBP, the fall in the A$ has been so sharp that this has not had a real impact on the A$ return.

So did I sell out of this investment?

Not yet.  I still do not think the Australian dollar is at fair value even though it has fallen significantly.  I think there is a little way to go.  Although I think the same trade is still available, the level of upside is not what it was 18 months ago so I probably will not be throwing more money into this investment strategy.

Was it just a fluke?

Did I just happen to pick the right currency and the right share market?  Was it just a fluke?  I don't think so.  I actually did the same trade with a much larger amount of money into the US market and the returns from that have been even more impressive than the returns I outlined above.  The reason I went through this example in the post is because it is the one I posted about 18 months ago.

Note that this is one of the investments I made that came off.  Next week I'll post about one that continues to cause me significant pain that I posted about several times in the past. I have no problem admitting my losses and it is worth all those who are new to investing to know that you can still get good portfolio returns even when you have a couple of dogs in your portfolio.

As always this is not investment advice.  Just a demonstration of what I have done and make sure you think through your own investments and use qualified advisers if you require it.

You May Also Be Interested In:
Investing in foreign index funds: an exchange rate opportunity
Foreign index funds: An example
Investment strategy: All Posts
Stocks: All Posts

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