If you’ve started investing in international shares using ETFs, something you might have heard about is “Hedged vs Unhedged” ETFs. This topic often comes up in the context of international investing because one of the things that can impact your “returns” is the fluctuations of the exchange rate between the country your ETF is investing in and your home country.
The way I like to look at it is:
Your returns = the returns of the underlying holdings in the ETF + the movements of your home currency vs the country your investing in.
Sometimes the movements of the exchange rate can be higher than the movements of the holdings in the ETF resulting in your ETF returns moving in unexpected ways.
Travelling overseas analogy
A great analogy to use is imagine going travelling overseas and undertaking a bit of gambling while you’re over. While you might gamble and some foreign casinos and win money - you might end up loosing that money when you come back to Australia because the foreign currency got weaker (against the Australian dollar) while you were overseas.
Enter the Hedged ETF product
To manage against this sometimes investors will use “hedging” to try and reduce their exposure to movements of things like currencies. ETFs that invest overseas will often be sold along with their “hedged” counterparts.
Examples of hedged ETFs
VGAD - Vanguard MSCI Index International Shares (Hedged) ETF
HNDQ - BetaShares NASDAQ 100 ETF - Currency Hedged
Their unhedged mates are VGS and NDQ respectively.
While the hedged ETFs will reduce your exposure to currency fluctuations - they do come at the cost of increased fees - because hedging against currency movements will cost the ETF provider money (Vanguard & BetaShares) which they kindly pass onto you in the form of higher management fees.
I’ll go into more detail about this in future posts but this should hopefully a nice little primer onto this topic.
I also covered this topic on one of my YouTube videos: