I hope you might help with my education ...
I have trouble getting my mind around the concept and basis for owning hedged vs unhedged. I know it has to do with currency valuations but beyond that I'm afraid I don't really understand it.
As a real world example to work off, I've owned TXF (the hedged version) for a long time and have noticed that it's pretty consistently been out-performed by its unhedged counterpart, TXF.B. I bought some TXF.B thinking to at least even things up and ironically since then the hedged version has been doing somewhat better.
My problem is that I really don't understand the mechanics of how it works, and why hedged is better in some circumstances but not in others - and even what those circumstances are.
I know hedging is something i should understand better, and I hope you can give me a primer, even though it's likely a pretty basic concept and also likely not that difficult to understand. I just seem to have a block and don't feel like I've grasped the concept or the important factors to consider when thinking about it.
Thanks!
Peter
It is not that hedged is 'better' it is just different. Essentially, if one owns a Canadian dollar hedged ETF it removes the impact of currency differentials. It does this typically with derivative contracts with third parties (banks). With TXF, the Canadian dollar HAD been weak for a while, so the hedged version did not get any benefit from the stronger US dollar over the past couple of years. But, recently, the Canadian dollar has been stronger, and thus TXF hedged has done better as it has not had the 'drag' impact from the weakening US dollar. TXF.B has outperformed TXF by 2% in the past three months. Generally, we prefer unhedged, viewing currency as just another form of diversification. Essentially, nobody has any accuracy in predicting currency moves, at least over any decent time period. Thus, we do not see a lot of value in worrying about such moves or trying to adapt a portfolio to them. As noted, it often backfires.
Authors of this answer, directors, partners and/or officers of 5i Research and/or affiliated companies have a financial or other interest in TXF.