Tahoe Market Pulse: A currency-hedged China ETF? Not just yet | SierraSun.com

Tahoe Market Pulse: A currency-hedged China ETF? Not just yet

David Vomund
Special to the Bonanza

In late July, I wrote about ETFs that allow you to buy European stocks without currency risk. Now that China surprised investors by devaluing the yuan, many investors are looking for a currency-hedged China ETF. Unfortunately, it doesn’t exist … yet.

Why did China devalue its currency? The yuan is closely tied to the U.S. dollar so as our dollar rises China’s exports become more expensive to everyone but us.

For China, it’s a double-whammy because this is happening just as their economy is slowing. The Chinese government decided to take action by adding to the supply of yuan in the global marketplace.

Adding yuan is not without risks, and not only to China’s economy. Currencies of neighboring countries and trading partners have fallen as well, so China’s net position appears to be no better than it was (except versus the dollar).

A policy under which a country devalues its currency to gain an edge and prompts others to do the same is known as “beggar thy neighbor.” There are few if any successes.

ETFs that hedge against currency movement have attracted a lot of assets, but a China ETF that hedges against the yuan doesn’t exist (yet).

That’s because the yuan has been pegged to the U.S. dollar. If the yuan depreciation becomes a theme, however, then offering a currency-hedged ETF will become very productive. Look for the major ETF families to move quickly in that direction.

Unfortunately, hedging is expensive, especially if the yuan once again moves in tandem with the U.S. dollar. Plus, Chinese interest rates are high so hedging strategies are more costly.

The Chinese government declared this would be a one-time adjustment, but that remains to be seen. Will they allow a more free-floating yuan or will they be unwilling to cede control over its currency to market forces?

China would like nothing more than to have its yuan declared a reserve currency by the International Monetary Fund (IMF). For that to happen, the currency would have to float more.

Under that scenario, a currency-hedged ETF would attract a lot of assets. I suspect the major ETF issuers are quickly moving towards offering such a product.

David Vomund is an Incline Village-based fee-only money manager. Information is found at http://www.VomundInvestments.com or by calling 775-832-8555. Clients hold the positions mentioned in this article. Past performance does not guarantee future results. Consult your financial adviser before purchasing any security.