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Peter Grandich: Cartel of gold shorts is imploding
Latest Advice
On Wall Street:
Buy Currencies
As Dollar Weakens, Firms Launch
New Funds That Hold Euro, Yen,
But Risks, Expenses Can Be High
By Eleanor Laise
The Wall Street Journal
Wednesday, May 3, 2006
Wall Street is increasingly encouraging individual investors to bet
on foreign currencies, and money managers are rolling out a host of
new funds to allow them to do this.
With many strategists expecting the U.S. dollar to continue to
weaken in foreign-exchange markets, a number of Wall Street firms,
including Morgan Stanley and Lehman Brothers Holdings Inc., have
begun advising individual investors to put a small portion of their
assets into euros, yen and other currencies that are likely to
increase in value as the dollar declines. Spurring the strategy in
part are concerns that a falling dollar could boost inflation, which
in turn could hurt prices of bonds and some stocks. Holding foreign
currencies in a portfolio could help investors hedge against
problems a falling dollar could create, these strategists say.
But other financial advisers warn that foreign-currency funds are a
risky gamble that doesn't generate long-term investment returns.
Instead, investors should stick with traditional investments such as
international stock funds, which can get a boost in dollar terms
when the U.S. currency declines, says Chris Cordaro, chief
investment officer at wealth manager RegentAtlantic Capital. "If
you're getting better equity valuations in foreign stocks [than in
the U.S. market] and you also want to hedge dollar exposure, that's
an easy, low-cost way of doing it," he says.
Still, foreign-currency funds are proliferating, with offerings
ranging from mutual funds that buy money-market-type investments
denominated in foreign currencies, to funds that use complex
strategies including trading derivatives and short-selling, or
selling borrowed securities in order to profit from an expected
decline. Some funds employ leverage, or borrowed money, to magnify
their exposure to currency movements. But this strategy also can
exaggerate any losses, and can make funds more volatile.
Rydex Investments recently launched its Euro Currency Trust, which
invests in the European currency, and now plans six more exchange-
traded products that track the British pound, Australian dollar,
Mexican peso and others. Merrill Lynch & Co. last month launched the
Global Income & Currency fund, a new closed-end mutual fund managed
by Nuveen Investments, that invests in various foreign currencies.
Other launches of currency mutual funds are being planned by
Ameriprise Financial Inc.'s RiverSource Investments and Rafferty
Holdings LLC's Direxion Funds.
The developments mark a significant shift for individual investors.
Financial advisers -- who have tended toward traditional
recommendations such as stocks, bonds and some alternative
investments such as real estate -- have rarely steered individual
investors into foreign currencies. That has long remained the domain
of large, professional investors because foreign exchange often
involves complex financial contracts and high transaction costs.
Investors making bets on foreign currencies face a number of risks.
Currencies are volatile and unpredictable. There's no guarantee that
the dollar, which surprised many market prognosticators by gaining
strength last year, will continue to decline in the months ahead. If
the U.S. economy experiences strong growth, the Federal Reserve
could continue to raise short-term interest rates, which could push
the dollar higher.
Some advisors say the new currency funds are too expensive. The
Rydex Dynamic Weakening Dollar Fund and the Falling U.S. Dollar
ProFund, both of which are linked to the performance of the New York
Board of Trade's U.S. Dollar Index, each charges annual expenses of
over 1.5% of assets. The average index fund charges expenses of
0.71%. "These are index-like strategies. You'd think you'd get index-
like pricing," says Lane Jones, chief operating officer at Evensky &
Katz Wealth Management in Coral Gables, Fla.
Still, a number of strategists see a place for foreign currencies in
client portfolios. Morgan Stanley's Global Wealth Management Group,
which serves individual investors, recently began for the first time
advising clients to invest about 3% of their assets in the Rydex
Euro Currency Trust, which holds euros in an interest-bearing
account. Overall, the firm recommends that clients with moderate
risk tolerance keep about 16% of their assets in international
stocks and nothing in overseas bonds.
Lehman's Private Investment Management group last month recommended
clients move money out of international bonds and invest instead in
foreign currencies, the first time it has recommended such an
investment. For clients with average risk tolerance, the firm
suggests investing 8% of total portfolio assets in money-market-type
investments denominated in foreign currencies.
Some of the new currency funds, like Merk Hard Currency, emphasize
such investments. Lehman recommends investors with moderate risk
tolerance devote 19% of their portfolio to international stocks.
However, the firm says to steer clear of international bonds because
it expects interest rates overseas to rise. "We're looking for the
least risky way of providing protection and maybe making a little
money, and that would be nondollar cash," says Aaron Gurwitz, senior
strategist at Lehman Brothers.
After gaining ground against the euro and the yen last year, the
dollar is down 6.2% against the European currency and 4% against the
yen so far this year. Strategists expect this trend will continue,
especially amid expectations that the Fed will soon end its campaign
of boosting short-term interest rates. At the same time, interest
rates are expected to head higher in overseas markets. This makes
investments in those countries more attractive, which in turn boosts
the value of those countries' currencies against the dollar.
Individual investors have long been able to bet on foreign
currencies using complex financial contracts, including currency
futures. Such investments carry significant risks, however, because
they require investors to speculate on the direction of particular
currencies and often involve borrowed money. The new currency mutual
funds and exchange-traded funds, which resemble traditional mutual
funds but trade like stocks on an exchange, are less risky,
financial planners say, because many of them offer a diversified
basket of foreign currencies and the expertise of a professional
money manager.
The latest currency offerings join a handful of existing currency
funds, most of them launched last year. While the funds are
generally designed to let investors bet on the direction of the
dollar, their strategies and holdings differ. The Merk Hard Currency
fund largely avoids complex financial contracts and borrowed money.
Instead, it is designed to protect investors from a weakening dollar
by buying foreign currencies through money-market-type instruments.
The fund is up more than 7% so far this year.
Other funds use more-complex strategies. The Rydex Dynamic Weakening
Dollar Fund aims to post performance that is about double the
inverse of the U.S. Dollar Index, which reflects the dollar's value
against other major currencies. So if the index were to go down 5%,
for example, the fund is designed to go up about 10%. The fund uses
derivatives, such as futures and options, as well as short sales, or
selling borrowed securities in order to profit from a price decline.
So far this year, the U.S. Dollar Index is down 5.9% and the fund is
up about 11%.
Other Wall Street firms that have recommended foreign-currency
allocations in the past are now telling clients to boost allocations
to those investments. J.P. Morgan Chase & Co.'s JPMorgan Private
Bank recently began advising clients to devote 2% of assets to
foreign currencies, up from zero previously. The firm recommends
clients get exposure to major foreign currencies like the pound and
the euro through money-market investments or more-complicated
forward currency contracts. Anton Pil, JPMorgan's global head of
fixed income and foreign exchange, says the firm is likely to boost
its recommended allocation even higher when the Fed is finished
raising rates. The firm also advises clients to devote about 15% of
assets to international stocks and nothing to international bonds.
JPMorgan last recommended a foreign-currency allocation in 2003 and
early 2004, when there was widespread concern about foreign central
banks diversifying out of the dollar and the Fed was not yet raising
interest rates.
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