Will Dollar Rally Hurt Foreign Mutual Funds?
A recent rally in the U.S. dollar has come to the aid of Americans traveling abroad but also threatens to put a damper on the performance of international stock funds.
The results generated by foreign funds depend on two factors--price fluctuations of overseas stocks as well as currency movements. When the dollar drops against the German mark, Japanese yen and other currencies, Americans owning shares in foreign funds ride a performance tail wind. When the greenback appreciates, Americans face a head wind.
Lately, the weather has turned inclement for American investors. The dollar has climbed 25% from its 1995 low against the yen and 9% against the mark.
“There’s a soft breeze behind the U.S. dollar in relation to its race against the European currencies, but there’s a howling gale behind the dollar in relation to the Japanese yen,” says Andrew Hutchings, a marketing representative for G.T. Capital Management in London.
G.T. Capital, which is affiliated with G.T. Global Funds of San Francisco, still views the yen as pricey against the greenback. This reflects Japan’s weak economy and comments made by officials on both sides of the Pacific that they would like to see the yen drop further, Hutchings says.
Tom Dodd, a senior consultant at Stratford Advisory Group in Chicago, regards the dollar’s renewed strength as a negative. Owing to the currency factor, plus indications that U.S. competitiveness has been enhanced by productivity gains, Stratford recommends that clients adopt a neutral to slightly bearish stance on mainstream international funds.
Still, there are reasons for Americans to hang onto these investments even if it appears the dollar has room to climb. Here are some rationales:
* The dollar doesn’t rise or fall uniformly against all currencies. The impact of any fluctuations depends partly on the nations in which a fund invests. “Many Southeast Asia nations peg their currencies to the dollar, so dollar movements don’t impact them as greatly,” notes Helen Young Hayes, manager of the Janus Worldwide Fund in Denver.
* Currency risk is good for diversification. Most Americans earn all of their income and hold most of their wealth in dollars, so it might be prudent to gain some exposure to marks, pounds or francs.
* Currency movements are notoriously difficult to predict. Efforts to do so are a form of market timing.
* The long-term trend of the dollar has been a losing one. We “do not expect the dollar to be a particularly strong currency in the years ahead because of fundamental problems such as the large U.S. budget and trade deficits,” reads a report from T. Rowe Price Associates in Baltimore.
* Foreign stock prices often rally when the dollar strengthens, because it means the products made by overseas companies will become more competitive against U.S. goods.
“In Japan, most profits are tied to exports, and something like two-thirds of companies lose money when the yen trades at a ratio of 90 or less to the dollar,” says Hayes. The yen now trades around 100 to the dollar.
In Japan’s case, a weakening currency has been viewed favorably for another reason--it reflects the Japanese government’s efforts to ease monetary conditions so as to alleviate problems in the banking sector.
“The Japanese have come to view the threat of deflation as real, so they’re willing to flood the system with liquidity,” says Jean-Marie Eveillard, manager of the SoGen International Fund in New York. After avoiding Japanese stocks for years, he has been buying in recent months.
SoGen International currently has 35% of its assets in foreign stocks and just 25% in U.S. issues, with the balance in bonds, gold shares and cash. “Generally speaking, I find foreign stock markets more attractive than the U.S. market,” Eveillard says.
Anna Powell, the London-based manager of the G.T. Global Europe Growth Fund, views European stocks as rather favorable. She sees chances for profit growth among many European firms and expects interest rates to fall further. She likes selected technology stocks and smaller European companies.
Other G.T. foreign funds are bearish on Japan but mostly optimistic about stocks elsewhere in Asia.
However you view currency risk, find out how your fund manager intends to cope with this danger.
Some funds, such as the G.T., Janus and SoGen portfolios, do make use of hedging strategies to guard against currency setbacks. Others, such as the international index funds from the Vanguard Group in Valley Forge, Pa., ride unprotected and let currency changes affect the fund.
Hedging costs money and can mute a fund’s gains if a manager guesses incorrectly, so it’s not a guaranteed winning strategy. To find out about your fund’s policy, call the firm, read the prospectus or check reports from Morningstar Mutual Funds of Chicago or the Value Line Mutual Fund Survey in New York.
*
The Templeton Russia Fund commenced trading Sept. 13 on the New York Stock Exchange under the symbol TRF, having attracted $75 million from investors.
The closed-end portfolio seeks long-term capital appreciation by purchasing shares in Russian companies. J. Mark Mobius is the portfolio manager. As of early September, the fund had 32% of its assets invested in Russian stocks, with the balance of the portfolio in cash.
*
Low costs, predictability and tax efficiency have helped boost the popularity of index mutual funds, but actively managed portfolios have fared just as well in the 1990s, reports Morningstar Inc. of Chicago.
The average U.S. stock fund gained 82.5% from Jan. 1, 1990, through June 30, 1995, Morningstar says. That compares to 85.9% for the Russell 2000, 82.3% for the Standard & Poor’s 500 and 80.3% for the Wilshire 4500. Index funds would have performed slightly worse than their target indexes owing to expenses and other factors.
Investors who concentrated their picks in actively managed funds offered by some of the largest families would have beaten the indexes handily so far in the 1990s, Morningstar adds. The best gains were logged by U.S. stock portfolios from Fidelity Investments, up 114.8% on average over this period, and Putnam Investments, up 103.6%.
