Exploiting The Exchange Rate In Your Foreign ETFs

| July 22, 2010 | 0 Comments

In crazy economic times, you need to find as many ways as possible to grow your portfolio.  And earlier this week, I introduced a brand new way to invest… MINTS.

MINTS is the acronym for Malaysia, Indonesia, New Zealand, Thailand, and Singapore.  They all trade with the large Asian countries of China, Japan, and India.

One of the many benefits of foreign ETFs doesn’t jump out at you right away.  But it can be found in an exchange rate premium the fund can exploit.

If you’re wondering how this works, I’m going to show you the process step by step and then tell you how you’ll be able to profit from the demise of the US Dollar…

When you buy an ETF, you’re depositing US Dollars into a fund.  The fund then takes your US Dollars and buys whatever the prospectus says they’ll buy.

That’s fine for funds holding US assets.  But it’s not that simple for foreign ETFs.  Let me give you an example…

We’ll use one of the foreign ETFs I just highlighted Wednesday.  Let’s take the iShares MSCI Thailand (THD).

Now, one of THD’s top holdings is Siam Cement, which trades on the Thai exchange.  And it represents roughly 4.14% of Net Assets.  When you, and other investors, buy shares of THD, the fund will need to go and buy shares of Siam Cement.  But they can’t do it using your US Dollars.  They first must convert your US Dollars into the Thai Baht.  And the current exchange rate for one US Dollar is 29.93 Thai Baht.

Remember that number, we’ll need it later…

Then the fund uses the Thai Baht to buy shares of Siam Cement.  So now you own shares of all the companies THD purchased, including Siam Cement.  Assume Siam Cement has a great quarter and the stock rises by 10%.

Still with me?

At this point, the fund needs to sell shares because you are cashing out. Or maybe it’s to rebalance the portfolio… whatever.  So they sell some shares of Siam Cement.  When they do sell, the profit is realized in Thai Baht.

But now they need to convert to US Dollars so you can cash out. Remember the Thai baht conversion?  If not, it was 29.93.  But hold up…

Since time has passed, the US Dollar has fallen.  Remember, it’s been in a downtrend for almost 10 years.  Because the exchange rate changed, you need just 28.70 baht to get your one dollar back.

Instantly, the fund has made an extra 4.1% on the trade!  And it’s all due to depreciation of the US Dollar.

Now, if this was a US company, you’d simply have made the 10% gain on THD.  But since there was an exchange rate involved, your profit is now 14.1%!

That’s an extra 41% more profit!

Now, there is some risk to the exchange rate on foreign ETFs…

If the US Dollar were to rally, we’d see these funds lose money on the exchange rate.  So exchange rate risk can be a concern.

But we’ve just heard great news from the Fed on interest rates…

In an attempt to calm the markets, Ben Bernanke told the world the Fed would leave interest rates unchanged, and at very low levels, for close to two years.  And that gave foreign ETFs the “all clear” sign.

One of the many drivers of the US Dollar is interest rate hikes.  So this news takes a huge chunk of the exchange rate risk off the table.

Since that announcement, the US Dollar has lost even more value.

If you’re looking for a way to diversify your portfolio… consider adding some foreign ETFs to your investment mix.  Not only can you grab solid growth, but exchange rates could bump up your foreign ETF returns!

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Category: Currency Trading

About the Author ()

Robert Morris is the editor of Penny Stock All-Stars, an investment advisory focused on discovering small-cap and micro-cap stocks that are destined to become the market’s next Blue Chips. The Wall Street veteran and small-cap stock specialist is also a regular contributor to Penny Stock Research. Every week, Robert shares his thoughts with our readers on a variety of penny stock-related topics. In addition to Penny Stock Research, Robert also writes frequently for two other free financial e-letters, ETF Trading Research and the Dynamic Wealth Report. He’s also the editor of two highly successful and popular investment advisories, Biotech SuperTrader and China Stock Insider.

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