International International Shares - Hedged vs Unhedged?

Hi mate,

Yes I knew that’s what you meant but I took it off onto a tangent to try to nullify someone suggesting I was introducing complexity into the portfolio hence making me sound like a hypocrite.

I’ll never be the asset allocator aiming for perfect balance in the portfolio. In our case that’s just not needed. I need to be comfortable with our buying decisions especially from a risk perspective far more so than a valuation perspective. There’s comes a point at which hedged global equities meets that risk criteria.

 

So anyone else besides @dunno switching to VGAD?
@Nodrog ?

 

Outside of super I am purely international to avoid the pain of VAS and VGB income which is allocated in super. Because vanguard haven't given us a total stock market index listing yet, I am 70% VGS, 20% VGAD, 10% VGE. If we happen to get a VT equivalent that is Australian domiciled with hedged and unhedged I will switch to that outside super at 80/20.

 

It makes me think through it and do some reading. It also keeps reminding me that I booked a trip to the US next month and paid for most of the costs a few months ago which was good, but still have spending money and Disneyland tickets to pay for and boy do they cost a pretty penny for 4 days.

It is good to be able to calm my lovely wife down by explaining that due to the dollar dropping the value of overseas fund holdings has risen far more than the increase in holiday costs, and to not worry about whether to buy thousands of US dollars now for the trip and carry them around, like her teacher friends/currency experts advise her to do.

 

I thought the linked info below from Andrew’s (Whirlpool, Bogleheads) site is a worthwhile addition to this thread in helping to decide how to allocate between hedged vs unhedged global equities.

@dunno could you be kind enough to critique this please? I have to admit that despite extensive reading about hedged vs unhedged equities over the years and in particular now with both of us retired it’s still an area that I don’t feel fully comfortable with. For example, just how suitable is say “hedged” global equities (eg VGAD) as a substitute in part (especially if significant) for Australian equities? Yes it assists with concentration risk but once hedged back to AUD then if Australia experiences an extended structural economic downturn and AUD tanks how useful is it?

Quite honestly, especially as a retiree, sometimes I think I’d rather not own Global equities at all mostly given the currency issues. So my decision given my dislike for bonds and too much cash hence a high exposure to equities generally comes back to “unhedged” Global Equities as “Insurance” against Home Country risk. Like most insurance one would prefer not to have to pay for it but consider it prudent risk management should the **** hits the fan.

Assuming a high exposure to equities I suppose should there come a time when a retiree wanted (or needed) to draw on unhedged Global Equities there’s always the possibility currency could have gone badly against them. But this is perhaps a price worth paying for insurance against home country risk?

Currency risk - personalising your AUD to non-AUD allocation - Passive Investing Australia

Others views of course welcome.

 

Any potential complications in hedged v unhedged for others should the maker decide to call?

 

None that I can think of other than if investing for the next generation then perhaps “unhedged” is preferred.

With Vanguard’s hedged equity ETF Income distributions are terribly erratic and non existent at times. That is the distribution is there but may end up in capital value at times. It’s not always income as understood by the average investor.

Over a longer time frame currency is generally considered a wash. So why pay a bit extra for hedging and lose the powerful protection against Home country risk. Also for commodity driven markets like Australia unhedged is generally preferred given ASX will likely tank even more than some other markets in bad times. And our dollar tends to tank in unison making unhedged global more valuable ie the value of unhedged global ETF increases as our dollar falls more relative to the likes of the US.

Gees been a busy day (for a retiree), hope that makes sense.

 

I think Andrew has presented it very well.

Unhedged is insurance against something going badly wrong with the Australian currency.

Hedged is useful if you want more equity diversification than currency diversification.

We’ve been through this a few times. I don’t think you can solve this for yourself logically.

The real trade off for hedged is increased diversification for losing franking credits. Beyond that you are also trading off a high-income market for high growth market, this latter point is theoretically mute, but not if you are wedded too and measure via income.

My suspicions of you: You are prepared to hold unhedged as home country insurance.
But beyond that you have a bit of cognitive dissidence going on between theory and emotion on hedged.You are not a natural holder of hedged for diversification benefits only. Income is too important to your psyche, and the downside risk of an extra 10~25% in Aussie LIC’s (who you can beleive help manage your Aus concentration risk anyway) as opposed to hedged(VGAD) isn’t perceived great enough for theory to overcome emotion. So long as it won’t jeopardise your future if the Aus market doesn't preform, you probably need to follow your heart.

 

Apologies, I’ve genuinely forgotten. Probably in part because I get lost in the large amount of posts I’ve written. The rest due to age no doubt.

Thanks @dunno. Yes I think you’ve nailed it. Damn behavioural factors yet again.

Not all that confident the large LICs can help substantially with managing concentration risk. The index being self cleansing and not hampered by embedded CG, tax and structural considerations may be more responsive in this regard. For AUD exposure albeit a poor substitute compared to hedged Global Equities to reduce local concentration risk we have around 12% (likely 15% overtime) in ASX mid / small cap LICs.

Then there’s PMC although high fee I’m content for them to manage currency. Again that seems to fit well emotionally if hedging is implemented actively by someone else. More importantly regardless of how it’s derived the all important income is there.

 

Thanks Nodrog and dunno for taking the time to go through some of the issues in this thought provoking topic.
I might be off track here, but as the Aussie dollar drops in value against the USD, is there a value component here that say the AUD is worth $0.68 or less then that is the time to buy VGAD rather than VGS?
Vice Versa when the AUD increases revert to buying the normal VGS?

 

Like you I’d be interested in how @dunno determined his hedged vs unhedged rule although I think he’s discussed this to a degree earlier in this thread.

Because, as seen in previous posts, I’m a basket case in deciding whether to invest in “hedged” global equities at all let alone deciding on any rules.

I summarised an interview with Hamish Douglas (Magellan founder) awhile back, see below. I thought he did a fantastic job in explaining some of the issues around hedged vs unhedged and potential ranges for considering when to purchase same.

If I had to pick a rule off the top of my head given the historical average of AUD vs USD (note though that VGS / VGAD are not just USD) then perhaps one could be to buy unhedged unless AUD vs USD is less than 65 - 68 cent range then buy hedged.

Or to simplify it to something much easier set a split between hedged vs unhedged (eg 75% / 25%) then rebalance by adding to whatever’s underweight.

Douglas Interview Summary:

Not advice.

 

Thanks Nodrog , some really good insights, much appreciated.

Just as a bit of a side note, with VDHG they appear to have chosen 15.9% of the portfolio to Vanguard International Shares Index Fund (Hedged). Obviously there research came up with this ratio.

From VGAD Overview: Investors seeking exposure to a diversified portfolio of international shares that is relatively unaffected by currency fluctuations.

 

Trouble is they change their diversified funds allocation at times, the one thing I don’t like about them. Then again I suppose it’s their “active” fiddling with a supposed passive allocation depending on their view at a point in time.

 

Such a complex topic with no right or wrong answer. I have not pulled the trigger on either hedged or unhedged for a long time now. Not particularly seeing value in VGS at the moment and also not sure what to think with regards to the AUD/USD. Plus also using VGS as an insurance policy myself (on top of diversification of course). So yeah.

 

Hello @Nodrog

Nothing has changed from what I have posted earlier.

Words are one thing, here is what I’m actually doing.

Within my allocation to large cap developed. I buy either VGS or VGAD depending on how we sit currently in relation to relative historical currency and equity market performance.

Really important to my plan is that changes to allocations occur over time. Many parcels over extended time results in vasty different outcomes than lump sum changes to the allocation.

The chart shows my Min and Max allocations to unhedged leading up to preservation age. The dot is where I currently sit. Each time the asset allocation plan calls for a purchase of VGS/VGAD over the last 6 odd months, I have been buying VGAD. I will continue to do so as long as I stay within the dynamic range for currency and Australia continues to underperform on a relative basis.



15% is my minimum unhedged exposure as insurance against home country risk.

 

The following charts use the Wholesale equivalents of Vanguard ETF’s (longer history) from the first date in common until current. Starting value $10K

Red line is VAS equivalent. Annual return 8.02%, final balance $43,602
Black line is VGS equivalent. Annual return 3.62%, final balance $19,700




Gulp. How about hedged?




Black Line this time is VGAD Annual return 5.55%, final balance $28,032

All available data, 19 years worth and you are 24K behind the eight ball if you diversified globally with unhedged and 15.5K if you used hedged. Who in their right mind diversifies globally?

.
.
.
.
.
.
.
.
.
.
.
.

This time, the charts are based on initial 10K and monthly contribution of 10K

Red line is VAS. Annual return 8.24%, final balance $5,383,465
Black Line is VGS. Annual return is 8.28%, final balance is $5,406,439



That’s more like it, how about Hedged?


Black Line is VGAD. Annual return is 8.83%, final balance is $5,745,370


If your caught in a spot where you need to make large changes to your global currency allocations then firsts charts are relevant, keeping in mind the future may be different to the past, but regardless you have high spot point timing risk.

If you can accumulate over time things are much more predictable.

Most people seem to think in spot point timing rather than cumulative flows – I think that is where a lot of the fear about the markets come from.

 

Hedge unhedged strategy aside. One thing I got from @dunno post is if you keep regularly buying a low cost index of your choosing and do it long enough say your working life you will retire rich. This is as close to guaranteed wealth creation formula you can get provided you stick to it.

Cheers
Oracle

 

I wonder how it would look from when the AUD went from above parity to ~0.7USD.

 

Have to agree. Kudos to @dunno for yet another wonderful post.

It’s quite funny or maybe not so funny how the simple concept of DCA is often one of the first things beginning investors learn about. That was decades ago for me. But gee for some including me getting the thick head to accept it, realise you can’t do better but more importantly implement it consistently is another story.

Greed, fear, contrarianism are just some of the traits than can sabotage the simplicity of it all.

 

The chart below shows what a wild ride currency can be and how long it can move in a given direction sometimes to extreme levels. For a long term accumulator not such a big deal. But for an aged retiree with a sizable Global Equity exposure especially if US dominated in this case one can’t help but think that having a split between Hedged and Unhedged during “De-accumulation” phase might make for a smoother ride financially and emotionally:


Thoughts? Has been discussed before but any new / changed views?

PS: just looked at the start of this thread, gees I am getting forgetful. Oh well I’ve typed this now so might as well leave it here. Not everyone has the patience to read from the start of the thread.