The Impact of Currency Movements on Investors

By: Karel Ellington, Trader Posted:

Currency is a medium of exchange for goods and services. To be specific, it is a system of money, in the form of paper or coins, usually issued by a government and circulated at its face value as a method of payment. Money also provides a store of value or wealth. In more recent times we now have cryptocurrencies which are digital currency that allows payments online using virtual tokens.

The value of a currency is determined when that currency is paired with another and is usually stated in terms of the amount of the domestic currency needed to get one unit of the foreign currency. The major currency pairs traded globally are GBPUSD, EURUSD, USDJPY.

However, the G7 nation currencies typically account for the bulk of the trading activity:

  • The euro and US dollar: EUR/USD.
  • The US dollar and Japanese yen: USD/JPY.
  • The British pound sterling and US dollar: GBP/USD.
  • The US dollar and Swiss franc: USD/CHF.
  • The Australian dollar and US dollar: AUD/USD.
  • The US dollar and Canadian dollar: USD/CAD.
  • The New Zealand dollar and US dollar: NZD/USD.

It is clear based on the illustration above that the USD features in all the major pairings and is still viewed globally as the world’s reserve currency. Based on the above the USDJMD dictates the cost of all the other major currencies traded locally hence GBPJMD, EURJMD, CADJMD rates are not only a reflection of the fundamentals and technical movements in the markets linked to the currencies stated but also the movements in the USDJMD which is a core determinant in the directions theses currencies trend against the local currencies.

Although it is important for investors to monitor currency movement and its effects on devaluation or revaluation of assets denominated in a foreign currency, these risks are typically muted over the long-term for the major currencies, since currency values will typically fluctuate overtime against their trading counterpart. As it pertains to the Jamaican market, USDJMD has traded in one direction over the longer term amidst short-term distortions. These fluctuations typically are most impactful on the portfolio held by institutional investors as accounting treatments can result in severe accounting losses, which may not have necessarily led to a loss in real money terms. Retail investors can also face losses or reduced profit from the disposal of assets and or conversion of coupon payments if rates are not favorable at the time when they elect to convert.

The short-term volatility in the local currency market has become more of an opportunity versus an obstacle to portfolio managers. Assuming FX position and trends are being monitored, the market created by the central bank’s policy introductions have become a means to make additional revenue on top of regular investment yields.

Retail clients can also benefit from currency moves by doing their own analysis of the markets or staying close to their portfolio advisors who will be able to see trends and give forward guidance. Apart from making money, clients also need to mitigate against risk attributable to investing in foreign currency denominated assets here are some strategies:

  • Firstly, try to properly plan liquidity needs as the sale of assets in a forced manner may leave the investor open to not only market risk but currency exchange risk if the local currency is required from divestment
  • Hedge FX currency income with forward sale or buy contracts
  • Currency Swaps