Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 376

Hide and seek: the FX impact on global equity investments

While domestic equities remain the main investment of choice for many Australian investors, there has been a shift in recent years towards international stock markets to increase returns and diversify portfolios. In a 2019 Investment Trends survey, a sixth of Australian investors stated that they intend to start trading international shares over the following 12 months. Overwhelmingly, the US market was seen as the starting point.

This article looks at three key areas which explain why equity investors should care about foreign exchange. We examine this issue through the lens of Aussie investors investing in US stocks, though the concepts covered are relevant for investments in other overseas financial markets.

One look at a chart of the AUD/USD exchange rate in the last year shows the range of US57 cents to US73 cents can have a profound impact on returns from overseas investments.

AUD/USD exchange rate, 12 months to September 2020

Source: IRESS

1. Investment returns due to currency risk

When you purchase and sell shares in an Australian company on a local exchange, whether your investment makes a profit will largely depend on the change in the company’s share price.

However, investing abroad is similar to going to a foreign country on holiday where the exchange rate can make a huge difference to travel costs. For international investing, the impact of foreign exchange rates can have a material impact on unhedged returns subject to currency movements.

It is commonly believed that Australian retail investors are heavily underweight global shares, but this is due to a misinterpretation of ATO data on SMSFs. A more balanced picture shows global equities are the largest asset class in Exchange Traded Funds (ETFs) in Australia. 

ETFs by asset class, as at August 2020

2. Company earnings

“The local bourse was up 0.6% today, with the lower Aussie dollar benefiting offshore earners.”

This is a common headline in market wrap-ups but what drives this scenario?

Some of Australia’s best-known companies are beneficiaries of a lower Aussie dollar because of their ability to generate or collect revenue in US dollars or other currencies.

Iron ore miners such as BHP Group (ASX:BHP) and Fortescue Metals (ASX:FMG), gold miners such as Newcrest Mining (ASX:NCM) and oil producers like Woodside Petroleum (ASX:WPL) receive a boost to earnings when the Australian dollar falls since the prices of their exports are benchmarked to the US dollar.

Other local companies leveraged to a strong greenback include healthcare giants CSL (ASX:CSL) and Cochlear (ASX:COH) and manufacturing and materials companies like Boral (ASX:BLD) and Amcor (ASX:AMC) who generate a large portion of their sales volumes in North America.

Companies may decide to hedge some or all of their currency exposure to deliver more stable earnings over time or they may be happy to take on the risk of short-term currency fluctuations.

3. Fees

While the fundamental rules of share investing are the same regardless of the market (buy quality companies with strong fundamentals and a resilient business), fees are more complicated and investors need to know how to minimise any erosion in investment returns. Brokerage fees, service fees, management fees, foreign exchange conversion fees and custody fees are some of the more common charges associated with international investing which require a closer inspection.

For Australian investors looking for single stock exposure, there are two common ways of investing;

  • Open an international broking account and trade direct shares on the relevant exchange (Direct).
  • Trade depositary receipts listed on Chi-X (now Cboe) Australia in AUD and locally through your domestic broker (TraCRs).

A recent report published by Deutsche Bank (the issuer of TraCRs) looks at these two options by comparing the fees charged by a large online broker which offers exposure to the US equity market via direct share investment and TraCRs. A summary of their findings can be seen below.

The cost of direct share investment is significantly higher than via a TraCR, and this is largely attributable to the foreign exchange conversion costs. Most investors may not realise that $170 in FX fees is equivalent to an additional 1.7% lost return on an investment of $10,000.

Ever wondered how the ever-expanding number of zero commission brokers earn a profit? This might explain it. In the case of TraCRs, the service fee is only applied to dividends, so if a stock does not pay a dividend, there is no service fee. And there’s a surprising range of companies which do not pay dividends that are available as TraCRs, meaning no services fees for holdings in Berkshire Hathaway (CXA:TCXBRK), Facebook (CXA:TCXFBK), Amazon (CXA:TCXAMZ), Netflix (CXA:TCXNFL), Google (CXA:TCXGOG) or even Zoom (CXA:TCXZOM).

Let’s look at an example

An investor sees many more people streaming television programmes and decides to invest in Netflix which trades on the NASDAQ exchange. She buys 100 shares in the company at USD500 per share when the exchange rate is AUD/USD 0.7000. So at the time of investment, the market value of these shares was USD50,000 or AUD71,428 (i.e. 100 shares x USD 500 / 0.70).

Fast-forward 12 months and let’s assume the price of Netflix has increased 20% to USD600 per share. The US dollar value of the 100 shares is now USD60,000, generating a tidy profit of USD10,000. However, over the same 12-month period, the value of the Aussie dollar appreciated 20% against the US dollar meaning the rate is now AUD/USD 0.8400. Converting USD60,000 to Australian dollars gives Australian dollar proceeds of AUD 71,428, the original investment!

Not a great result given the investment idea was correct and Netflix increased 20% over the year. It would equate to a small loss once the fees outlined in the previous section are taken into account.

Of course, the opposite is also possible. The currency headwind can turn into a tailwind when exchange rates move in the opposite direction. Purchasing unhedged shares, TraCRs and ETFs can be a positive if the Australian dollar depreciates. Staying with the example above, if the Australian dollar depreciates by 20% down to AUD/USD 0.56, close to the level in March this year, the Australian dollar value would be an impressive AUD107,143 (i.e. 100 shares x USD 600 / 0.56).

In this example, if the investor expects the Australian dollar to fall, they might be happy to take an unhedged position. However, for those who want to take the currency risk out of the equation, there are a number of products (including ETFs) which can assist in hedging some or all of the currency exposure.

More investing overseas means more FX risk

As companies and investors continue to explore growth opportunities outside Australia, foreign exchange movements are becoming more intertwined with equity investor returns. The range of investment products is increasing which brings choice but it’s important to consider the additional fees and charges associated with dealing in international markets.

No matter whether you are investing in local or offshore companies, or on an Australian or international exchange, it pays to take a closer look at the impact of foreign exchange on your equity investments.

 

Adrian Fyffe is a Product Manager at Cboe Australia, a sponsor of Firstlinks. This article is general information and does not consider the circumstances of any person.

For more articles and papers from Cboe, click here.

 

4 Comments
Ivan
September 25, 2020

if you trade USA stocks via CFD's with an aussie broker then the FX impact is largly negated ( but not totally)
The FX movement is applied against the notional profit or loss but not the total position size (as with a stock )

Graeme
September 24, 2020

The cost comparison is only valid if each share buy/sell is from/to an AUD denominated broking account. We have a USD denominated broking account to which a proportion of our investment portfolio is allocated. Each buy/sell of US shares from/to this account therefore incurs zero FX conversion. The brokerage rate also happens to be zero. There are no service, custody or other fees.

Jack
September 23, 2020

While I might have some idea about the fortunes of a company, I have no idea about the currency. So stay hedged.

SMSF Trustee
September 23, 2020

But Jack, in being fully hedged in all asset classes you lose the diversification benefit that having some FX gives you. Often, when the global markets fall, so does the AUD, so being unhedged provides a cushion.
You don't need to have any idea about the currency's short term movements or even require active management of the currency exposure - just have some unhedged global shares and it will all wash out over time.
In fact, the decision to be fully hedged is one that you'd only make if you believed the AUD was going to trend up over time - so in reality, that's the decision you'd make if you felt you DID have some idea about the currency. It's a contradictory position you're taking.

 

Leave a Comment:

RELATED ARTICLES

It’s the large stocks driving fund misery

Winners and losers in sharemarkets, 2017/18

How we have invested during COVID-19

banner

Most viewed in recent weeks

Australian stocks will crush housing over the next decade, one year on

Last year, I wrote an article suggesting returns from ASX stocks would trample those from housing over the next decade. One year later, this is an update on how that forecast is going and what's changed since.

What to expect from the Australian property market in 2025

The housing market was subdued in 2024, and pessimism abounds as we start the new year. 2025 is likely to be a tale of two halves, with interest rate cuts fuelling a resurgence in buyer demand in the second half of the year.

Howard Marks warns of market froth

The renowned investor has penned his first investor letter for 2025 and it’s a ripper. He runs through what bubbles are, which ones he’s experienced, and whether today’s markets qualify as the third major bubble of this century.

The perfect portfolio for the next decade

This examines the performance of key asset classes and sub-sectors in 2024 and over longer timeframes, and the lessons that can be drawn for constructing an investment portfolio for the next decade.

9 lessons from 2024

Key lessons include expensive stocks can always get more expensive, Bitcoin is our tulip mania, follow the smart money, the young are coming with pitchforks on housing, and the importance of staying invested.

The 20 most popular articles of 2024

Check out the most-read Firstlinks articles from 2024. From '16 ASX stocks to buy and hold forever', to 'The best strategy to build income for life', and 'Where baby boomer wealth will end up', there's something for all.

Latest Updates

Investment strategies

The perfect portfolio for the next decade

This examines the performance of key asset classes and sub-sectors in 2024 and over longer timeframes, and the lessons that can be drawn for constructing an investment portfolio for the next decade.

Shares

The case for and against US stock market exceptionalism

The outlook for equities in 2025 has been dominated by one question: will the US market's supremacy continue? Whichever side of the debate you sit on, you should challenge yourself by considering the alternative.

Taxation

Negative gearing: is it a tax concession?

Negative gearing allows investors to deduct rental property expenses, including interest, from taxable income, but its tax concession status is debatable. The real issue lies in the favorable tax treatment of capital gains. 

Investing

How can you not be bullish the US?

Trump's election has turbocharged US equities, but can that outperformance continue? Expensive valuations, rising bond yields, and a potential narrowing of EPS growth versus the rest of the world, are risks.

Planning

Navigating broken relationships and untangling assets

Untangling assets after a broken relationship can be daunting. But approaching the situation fully informed, in good health and with open communication can make the process more manageable and less costly.

Beware the bond vigilantes in Australia

Unlike their peers in the US and UK, policy makers in Australia haven't faced a bond market rebellion in recent times. This could change if current levels of issuance at the state and territory level continue.

Retirement

What you need to know about retirement village contracts

Retirement village contracts often require significant upfront payments, with residents losing control over their money. While they may offer a '100% share in capital gain', it's important to look at the numbers before committing.

Sponsors

Alliances

© 2025 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. To the extent any content is general advice, it has been prepared for clients of Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), without reference to your financial objectives, situation or needs. For more information refer to our Financial Services Guide. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.