The euro at 1.157 and the currency you do not know you hold

On 14 August the euro dollar rate rose to 1.1567, a gain of 0.35% on the session, and stayed close to 1.1575 the following day. That is near the highest level of the past two months, with the average for the year around 1.1625.

For most European portfolios, this number matters more than it looks.

The ETF is in euro, the companies are not

An ETF can be listed on a European exchange, bought in euro and shown in euro on your statement. That does not mean its assets are in euro.

If the fund holds US shares, it holds dollars. The currency you trade in is only the wrapper. The currency of the companies inside is what drives your return. The very same fund can carry three listings on three exchanges, in three trading currencies, and still be one product with one portfolio underneath.

An example with numbers

Suppose an index rises 10% in dollars over a year. Over the same period the euro strengthens 5% against the dollar. The return you see in euro is neither 10% nor 5%. It is roughly 4.8%.

The reason is simple: the dollars you gained convert into fewer euro than before. It works in reverse too. A weaker euro lifts the return of a portfolio with US exposure without anything at all improving inside the companies themselves. A good part of what many European investors read as American outperformance in certain years was in truth the exchange rate moving.

Why most investors do not hedge equities

Currency hedged versions of ETFs do exist. They carry a cost, which depends on the interest rate difference between the two currencies, and today the gap between the dollar and the euro is not small: 3.50% to 3.75% in the United States against 2.25% in the euro area.

Common practice is to leave equities unhedged and to hedge bonds. The logic holds up. A share is volatile anyway, so the exchange rate adds relatively little extra noise. In a bond, where volatility is low by design, the currency would dominate the very reason you bought it, which is stability. The topic is developed in the currency chapter of the ATLAS guide and in what hedging is, while the Logifin ETF Hub shows which bond funds are hedged to euro.

What to do about it in practice

Nothing hasty. Exchange rates are not forecast reliably, not even by banks with entire desks devoted to the task.

Three things do make sense:

1. Know that the exposure is there. Then a currency move is never mistaken for the success or failure of your investment choice.
2. Measure in euro. The return that concerns you is the one in the currency you will actually spend.
3. Hedge selectively. Only where the currency would drown the purpose of the position, meaning the stable part of the portfolio.

What to take away

• The trading currency of an ETF is not the currency of the risk. Look at what it holds, not at how it is sold.
• Exchange rates give and take away. Over decades they tend to even out, over a few years they can change the picture materially.
• Hedging is not free and it is not always useful. It earns its cost where the currency would otherwise dominate the purpose of the investment.