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ETFs versus forwards: Which are best to play currency dislocations?
by Robert St George on Oct 03, 2013 at 11:01
Such products offer the ability to make straightforward bets for or against currencies. The ETF Securities range has names along the lines of ‘short euro long US dollar’, based either on macroeconomic analysis or a hunch ahead of a national statistical announcement, for example. George Soros, after all, made fortunes by shorting currencies that with hindsight were in evident peril, so is it an area worth backing?
‘Clients from time to time say that to us,’ says Chris Sexton, investment director at Saunderson House. ‘But we don’t believe we have more than a 50% chance of getting it right. Every time you think a currency is going somewhere, you’re wrong. People say they have an insight, but it’s just a view. They’re really speculating, not investing.’
He isn’t alone in this opinion. ‘The number of people who can predict currencies is very small, if not zero,’ says Alan Miller, founding partner of SCM Private.
Even those who are more optimistic are only marginally so.
‘There is the potential to make some interesting money in currencies,’ says Neil Birrell, senior investment manager at Premier Funds.
He prefers to leave this to the experts, which in his case means GAM Star Discretionary FX , a fund managed by Adrian Owens that has returned 10.2% over the past year.
While GAM provides the currency upside, Birrell hedges the downside through forward contracts, considering them ‘cheaper and more efficient’ than currency exchange traded notes (ETNs).
Elizabeth Savage (pictured), research director at Rathbones, also prefers to use currency forwards for hedging because they are cheaper.
The reason is simply the upfront and ongoing costs. Exchange traded products incur transaction fees, followed by annual management charges. An astute forward contract, on the other hand, should have a minimal arrangement fee and only cost the holder if the currency moves the wrong way – in which case the long position that has been hedged should result in a net profit anyway.
Currency ETNs are also eschewed by many because of their structure: essentially they are unsecured debt issued by the counterparty bank, rather than a basket of assets in the traditional sense of exchange traded funds (ETFs). Miller asserts that he would ‘never, ever’ touch an ETN.
‘They simply don’t have the same degree of protection of ETFs,’ he says. ‘They are the equivalent of backing Finchley United against Manchester United in terms of investor protection. I’ll stick with Manchester United.’
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