Content provided by Joshua Jenkins, CFA, Portfolio Manager
Over the last year, currencies have been on the forefront of my mind, which is unusual. I’m not saying they are not important. In the short term, they definitely impact returns. Portfolio Manager Case Eichenberger recently wrote about that here. Over the long term, however, the impact of currency fluctuations tend to net out to zero. As long-term investors, we are generally comfortable taking on currency risk if the asset we are buying is priced attractively.
So, why have I been thinking about currencies so much? Well, my wife, Kirsten, and I were married this August, and immediately after the wedding we traveled to Europe for our honeymoon. While I may be a long-term investor, I am not a long-term honeymooner. Suffice it to say the recent dollar move definitely had an impact.
We did not choose Europe last fall specifically because the euro was trading at the weakest level to the dollar in 15 years, but believe me that fact did not go unnoticed by me. So, as I spent 2017 watching my trip becoming more and more expensive, it was painful. Fortunately, we locked in a substantial portion of the cost in April by prepaying for hotels and flights to various destinations in Europe. At least we were partially hedged.
(If you look closely, you can see me calculating how much more I had to pay for the gondola ride due to the euro rally. Just don’t tell Kirsten.)
The chart below provides some rough evidence that currency moves even out over time. During the last 50 years, rolling 12-month returns on the Dollar Spot Index (DXY) generally resemble a normal distribution with a return of 0.01% on average.
As Case’s blog pointed out, weakness in the dollar has provided a very nice tailwind for our international holdings at CLS this year. In addition, according to the table below from Ned Davis Research, when sentiment towards the dollar (red line) is as sour as it is today, the dollar typically continues to underperform to the tune of 5% to 8% per year. To put it another way, this tailwind may persist, and that should generally be a postive outcome for CLS portfolios.
So, if you are planning a trip overseas in the near future, some attention may be warranted. Perhaps hedging a portion of the expenditure ahead of time could be beneficial. Though I was better off having hedged, my experience tells me it does little to reduce the mental pain of the unhedged cost. For long-term investors, enjoy the tailwind while you have it. Just remember — honeymoons aside — the long-term impact of currency fluctuations doesn’t need to keep you up at night.
Content provided by Marc Pfeffer, Senior Portfolio Manager
I know many investors don’t follow the short-term Treasury market on a day-to-day basis. But, as someone who has followed the fixed income market for my entire career, which includes running money market funds, I know these securities are key components. During the summer months, the debt ceiling dilemma started to play havoc on short-term Treasury bills maturing in October. Why? The debt ceiling was set to expire at the end of September, and there was a possible, albeit very small, chance the U.S. would technically default by delaying payment due to politics.
Although I personally thought there was zero chance of this occurring, one still has to plan and appreciate the market was going to price in some of this uncertainty. With Congress on vacation through August, it looked like a resolution could only come in September. From September 1 to September 7, investors in these T-bills had been whipped into a frenzy. But a deal was finally struck Thursday afternoon as Congressional leaders and the president agreed to a three-month deal to raise the debt limit. The negotiated measure would suspend the ceiling through mid-December, essentially kicking the can down the road.
So now, we go from worrying about T-bills maturing in October to those maturing in December and early 2018. Until the debt ceiling is abolished, it will continue to wreak havoc from time to time on the short-term T-bill market.
Luckily, the U.S. has never been late on its debt payments, and hopefully it never will.