Long term impact of currency changes [UAE]

For residents of the United Arab Emirates.
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Topic Author
Fromage
Posts: 5
Joined: Wed May 17, 2017 4:20 am

Long term impact of currency changes [UAE]

Post by Fromage »

Hi,

I would greatly appreciate some advice. Apologies if this is a regular thread! Although I have been reading up generally on the investment theory behind Bogleheads for a few months, I'm v new to this site.

My question, in short, is: should I be investing in Euro denominated funds, given my long term plan is to buy property in the euro area, despite earning in a USD-pegged currency?

My situation is as follows:

I am a British expat in my early 30s, living in the UAE. Hence I pay no tax and can keep my savings and investments offshore.

Currently, my savings are approximately as follows:

- $100,000 USD in cash in UAE
- AED 100,000 in cash in UAE
- £15,000 GBP in Vanguard funds in UK
- £5,000 GBP in cash in UK

I am currently in the process of consolidating my savings into a Luxembourg-based broker, to invest in Vanguard ETFs. The broker offers a multi-currency account.

I earn in AED, which is pegged to USD. I am aiming, over the course of the next few years, to invest approximately $5000 / month into Vanguard ETFs.

My long term goal (10 - 15 years) is to buy a property in Europe, preferably with as little mortgage as possible, and then move into less formalised employment.

Given the above, is there any rule of thumb (e.g. don't DCA) on the best time to convert my cash holdings into Euros? Now (and on a monthly basis going forward), or when I buy a property? Does it make any difference?

One immediate challenge is that, as far as I can see, the Vanguard offering of Euro-demoninated ETFs is very limited.

I would like to invest in Vanguard Total World Stock (VT), Vanguard FTSE Emerging Markets (VWO).

If the broad recommendation is to invest in Euros, are there any recommendations on iShares euro-denominated equivalent ETFs?

Many thanks in advance for your assistance!
NiceUnparticularMan
Posts: 6103
Joined: Sat Mar 11, 2017 6:51 am

Re: Long term impact of currency changes

Post by NiceUnparticularMan »

So generally speaking, the standard advice is to start by hedging any fixed-income assets in your planned consumption currency. So, if fixed-income is part of your asset allocation plan, you might be looking to Euro-hedge at least some of those (I am not sure if all or most of your consumption is going to be in Euros, on top of the property costs). if you have enough fixed-income in your portfolio, that might well be all the hedging you need, meaning you could just globally-diversify your equity investments and otherwise leave them unhedged. Alternatively rather than hedging them, you could mildly overweight your Euro-denominated equities.

I'm not sure what Vanguard has in terms of Euro-hedged fixed-income ETFs--there might be none. I believe some other companies might have them, however--like perhaps iShares or State Street.
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BeBH65
Posts: 1763
Joined: Sat Jul 04, 2015 7:28 am

Re: Long term impact of currency changes

Post by BeBH65 »

Hello fromage,

There are two topics to address currency volatility and currency exchange costs.

As mentioned above, a common advise is to protect the protection portion of your portfolio in the currency you will be spending it. In your case this could be done by buying euro bonds or a euro hedged bond fund. This limits volatility.

Many Etf's can be bought in different currencies while the underlying assets are the same. This is also true for the many Ireland based Etf's of Vanguard. You earn your money in usd. At a certain moment you will need to exchange this to euro. Maybe you should do it now, and have the funds grow in euro. This gives you 1/Some kind of DCA and 2/avoids that you would have to pay currency exchange costs on the growth in case you invest in usd and hence have growth USD.

Regards,
Last edited by BeBH65 on Thu May 18, 2017 7:51 am, edited 1 time in total.
BeBH65. (only an investment enthusiast, not a financial adviser, perform your due diligence). | Have a look at https://www.bogleheads.org/wiki/Outline_of_Non-US_domiciles
Valuethinker
Posts: 48947
Joined: Fri May 11, 2007 11:07 am

Re: Long term impact of currency changes

Post by Valuethinker »

Fromage wrote:Hi,

I would greatly appreciate some advice. Apologies if this is a regular thread! Although I have been reading up generally on the investment theory behind Bogleheads for a few months, I'm v new to this site.

My question, in short, is: should I be investing in Euro denominated funds, given my long term plan is to buy property in the euro area, despite earning in a USD-pegged currency?
You mean before Brexit hits ;-). Seriously, we can presume that *existing* expats living in the EU will get some kind of deal re healthcare and pensions post Brexit. Conversely, we have no idea what it will be like for those of us who will retire long after Brexit occurs. Almost for certain, we will be required to have private medical insurance. If you look at the situation re State Pensions in Canada and Australia for British expats, it ain't pretty (frozen at the level you left the UK, even though, as in my father's case, that was the 1950s).

But yes you should invest in funds that:

- hedge their currency back into Euros

That's normally bond funds, but there are equity funds that do that. Remember it is *not* simply currency of denomination of the fund, ie the currency in which it reports/ units are priced. The fund actually has to make active use of hedging back into Euros.

I would build up a bond fund position (Euro denominated government bonds fund OR international bond fund hedged back into Euros; investment grade corporate bonds are a risky but feasible alternative) that roughly matches your expected purchase price.

My situation is as follows:

I am a British expat in my early 30s, living in the UAE. Hence I pay no tax and can keep my savings and investments offshore.

Currently, my savings are approximately as follows:

- $100,000 USD in cash in UAE
- AED 100,000 in cash in UAE
- £15,000 GBP in Vanguard funds in UK
- £5,000 GBP in cash in UK

I am currently in the process of consolidating my savings into a Luxembourg-based broker, to invest in Vanguard ETFs. The broker offers a multi-currency account.

I earn in AED, which is pegged to USD. I am aiming, over the course of the next few years, to invest approximately $5000 / month into Vanguard ETFs.

My long term goal (10 - 15 years) is to buy a property in Europe, preferably with as little mortgage as possible, and then move into less formalised employment.
We won't be in the EU then, and presumably your right of residence and work will be decided at a national level. Good luck with the German citizenship application ;-). Sprechen zie gut Deutsche, mein herr? ;-).

Seriously, we are in an environment where we cannot make definite plans-- because the future post Brexit is unknowable. In a fast aging world with soaring medical bills, no one is going to want us over 50 folks-- young people will find it easy to migrate, we will not. Get to know Bognor Regis because you might be retiring there ;-).

Assuming the politicians will do the sensible thing is just that, an assumption. They have not so far, why do we think they will break a losing streak?

If you have any possibility of an EU passport, due to ancestry, you should get working on it. For example, an Irish grandparent. I understand that this is being done on behalf of the Farage children (whose mother is German) ;-).

Given the above, is there any rule of thumb (e.g. don't DCA) on the best time to convert my cash holdings into Euros? Now (and on a monthly basis going forward), or when I buy a property? Does it make any difference?

One immediate challenge is that, as far as I can see, the Vanguard offering of Euro-demoninated ETFs is very limited.

I would like to invest in Vanguard Total World Stock (VT), Vanguard FTSE Emerging Markets (VWO).

If the broad recommendation is to invest in Euros, are there any recommendations on iShares euro-denominated equivalent ETFs?

Many thanks in advance for your assistance!
https://www.ishares.com/uk/institutiona ... f-acc-fund

Generally I use ishares ETFs (it has not been sensible to access Vanguard in the UK, although that is changing).

I pulled that as an example:

- Accumulating (saves costs of reinvestment of dividends)
- Euro denominated
- underlying assets pay coupons in Euros, so therefore there shouldn't be any costly hedging going on (but do read the Prospectus!)
- 7 to 10 year maturity. Generally that has been a "sweet spot" re government bonds. You get most of the yield of a 10 year, but somewhat less interest rate volatility. As long as the maturity of your bonds is less, on average, than your need for the cash (ie when you want to buy the place in Europe) then you should be OK. Interest rates on safe Euro zone government bonds are really low right now, so to get any positive return you need to stretch along the yield curve (ie increasing years to maturity of the bonds), but I would tend to avoid more than 10 year bonds (if interest rates or inflation shoot up, this can be an unpleasant place to be)

One problem (which is why I didn't recommend the 3 to 7 year ETF from ishares) is that Italy is a rather large chunk of Eurozone govt bonds. If the Euro ever falls apart, credit risk will loom large (and in fact would be the causative factor). Had the French election gone the other way ... ;-).

There just aren't many accumulating ETFs on that list. Otherwise, you are going to get hit with commission every time you reinvest the interest income (fund dividends). Now right now that will be quite small, so maybe you just wait and do that once a year? That opens up a wider range of bond fund ETFs to invest in.

https://www.ishares.com/uk/institutiona ... &fac=43515
Topic Author
Fromage
Posts: 5
Joined: Wed May 17, 2017 4:20 am

Re: Long term impact of currency changes

Post by Fromage »

Thank you very much NiceUnparticularMan, BeBH65 and Valuethinker. I really appreciate the feedback!

Clearly I need to consider including fixed interest in my portfolio. I hadn't, up until now, given that the interest rates on govt. bonds have been so low, but given that the currency swings may effectively wipe out potential gains, I can see the sense in it!

Does anyone have a point of view on EUR hedged corporate bonds vs. EUR govt. bonds (the two alternatives outlined by NiceUnparticularMan and Valuethinker?

iShares offers a 'Global Corporate Bond EUR Hedged' https://www.ishares.com/uk/individual/e ... individual

as well as the '€ Govt. Bond 7 - 10 Yr' suggested by Valuethinker.

I notice that the latter has a low TER than the former (.05% difference).

I also assume that the latter is more volatile?

Brexit is, of course, the elephant in the room with this plan, but hopefully by the time I'm looking to fully retire (30 odd years from now) the generation that voted to stay in will have sorted out some of the mess... I can but hope! :-)

Thank you again for all your input.
Valuethinker
Posts: 48947
Joined: Fri May 11, 2007 11:07 am

Re: Long term impact of currency changes

Post by Valuethinker »

Fromage wrote:Thank you very much NiceUnparticularMan, BeBH65 and Valuethinker. I really appreciate the feedback!

Clearly I need to consider including fixed interest in my portfolio. I hadn't, up until now, given that the interest rates on govt. bonds have been so low, but given that the currency swings may effectively wipe out potential gains, I can see the sense in it!

Does anyone have a point of view on EUR hedged corporate bonds vs. EUR govt. bonds (the two alternatives outlined by NiceUnparticularMan and Valuethinker?

iShares offers a 'Global Corporate Bond EUR Hedged' https://www.ishares.com/uk/individual/e ... individual

as well as the '€ Govt. Bond 7 - 10 Yr' suggested by Valuethinker.

I notice that the latter has a low TER than the former (.05% difference).
The TER is probably not that consequential. Given that you have 10-15 years to run, you can probably afford to take the extra risk with corporate bonds.

My concerns with Euro government bonds are:

- the yields are miniscule and if interest rates ever rise, yields will rise and there will be some steep price drops

- the credit risk of Italian government bonds (and Spanish; also Portugal). With Macron's victory, the risk of an immediate Euro crisis has diminished sharply. But the centrifugal forces in the Eurozone are still there and at some point, in some way we can't forsee they might break out again. For example the upcoming Italian elections.

Also the total market value of the Euro Bond ETF I suggested is quite small. As long as you are not stuck on Accumulating units then there probably is a better alternative.

In summary: you could go with the corporate bond ETF. Over the time frame we are talking about, better alternatives will no doubt emerge.

If we rerun 2008-09 you will have a real pit in your stomach as the corporate bond ETF does the big lurch down.

A reasonable compromise would be 50/50 in each.

If your investment strategy was say 70% equities 30% bonds, then with the equity time horizon of 20-30 years that should be OK on the equity side, and with the property time horizon of 10-15 years, that should be OK on the bond side. When it comes time to buy the property, you have bonds in place to do it (investing month by month between now and then). If you are feeling less risk averse, 25% bonds, say (or even 20%).
I also assume that the latter is more volatile?
Because of credit risk, the corporate bond ETF should be more volatile. However interest rate risk will be greater with the EUR government bond ETF.

The way I would put it is that the corporate bond ETF will be more volatile in normal circumstances. However in the extraordinary circumstance of further disruption in the Eurozone politics, that may well not be the case. In the meantime, the corporate bond ETF will have (slightly) higher returns (say around 1% pa more-- the yield on 7-10 year Eurozone bonds now is almost zero; investment grade corporate bonds are a bit higher).
Brexit is, of course, the elephant in the room with this plan, but hopefully by the time I'm looking to fully retire (30 odd years from now) the generation that voted to stay in will have sorted out some of the mess... I can but hope! :-)

Thank you again for all your input.
We live in hope ;-). I feel my generation should collectively apologize for the mess we have left them in (not simply nor only in this matter) ;-).
NiceUnparticularMan
Posts: 6103
Joined: Sat Mar 11, 2017 6:51 am

Re: Long term impact of currency changes

Post by NiceUnparticularMan »

I wouldn't dare try to derive a Euro-based bond strategy that anyone should rely on, but I will say Valuethinker is making sense to me.
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