The EURUSD currency pair has been one of the most closely watched and traded pairs in the forex market for years. Its movements can have a significant impact on the global economy and particular investments.
In 2022, we witnessed a significant moment in the history of the global currency market. In September 2022, the USD posted gains against most major currencies. It rose more than 12%, reaching levels not seen in decades. However, this historic bull rally came to a halt at that point. The move turned around, resulting in a nearly 7% depreciation. This change marked a remarkable shift in the currency landscape and had a considerable impact on international financial markets.
In this post, we will examine the impact of the EURUSD in both hedged and unhedged investors during the last year and explain their divergent performances.
Keeping USD unhedged provided extra yield last year. We analyzed the example of the Pictet-USA Index I Acc fund. The unhedged EUR class performance was -13.43%, well above that of its USD reference class, -18.76%.
Of course, as this is an uncontrolled risk, the opposite could have happened, producing losses. In fact, it is possible that this situation will occur soon, as a result of the EURUSD exchange rate turnaround. The spread between the two classes has turned around: this time, it is much more unfavorable results for the unhedged EUR class, -4.88% versus 5.52%, since September.
The EURUSD currency cross is constantly moving up and down as shown by its historical data.
To avoid this risk, it is necessary to hedge it and, consequently, to forego any possible gains from the currency. We review the result of the hedged share class of the fund.
Those who decided to hedge USD risk passively in 2022 have missed the opportunity to take advantage of USD appreciation. In addition, they had to face interest rate payments, which in 2022 were also negative. As a result, their performance was 3% worse than that of the USD reference class, -21.67% versus -18.76%, and well below the unhedged alternative.
The hedge price depends on forwards. When positive, the USD hedge is penalized. The current situation shows a quite expensive USD to hedge. Holding a passive USD hedge during 2022 cost approximately -2.15%, excluding fees.
As we look ahead to 2023, many investors are wondering what the future holds for this important currency pair, and how it will affect their investment portfolios.
In scenarios such as this, when spot volatility is not negligible and the cost of passive hedging is high, it is advisable to consider active hedging as an alternative. Varying the hedging decision over this period would cut the downside of the end for unhedged investors and provide a positive return for hedged ones, which is at least saving the cost of hedging.