Further Investment Strategies Using Currency ETF Options

Historically, the flight to quality theory of economics has found investors hurrying toward the safest investments available in times of uncertainty. In the recent Global Financial Crisis, even though the United States itself was experiencing unprecedented economic slowing, the US dollar has remained a bastion of economic security since World War II, and so became the haven for funds from all over the world. When in fact no economy exists in order to provide refuge for investors, the investment of choice is usually in precious commodities such as gold. Gold has experienced an unprecedented rally since the Global Financial Crisis began to affect the United States so profoundly, and considering it is in limited supply with supply around the world beginning to be threatened, investors have bought the gold market up from the $400 per oz. level to over $1300 per oz.

Again, investors need not be in actual need of a refuge for their funds; gone are the days for such practical necessity. It is merely enough to anticipate a flight to quality and benefit from the consequential capital gain in asset price. When managing such exposure however, it may be prudent from time to time to hedge the position with $US currency. Since gold is denominated in $US, an appreciation in gold is made possible by investors selling $US to purchase gold. When gold appreciates, the $US dollar necessarily depreciates in value against gold. It may not depreciate in value against other currencies but that eventuality will only mean that those other currencies have depreciated much farther against gold than the $US has.

To hedge a long position in gold an investor will only need to purchase $US. These may not appreciate against another currency but an appreciation against gold will offset depreciation in the gold price. While not a perfect hedge (currency trading rarely has one), ETF call options in $US will provide a suitable and quantifiable hedge when purchased against long gold, while a sale of ETF $US puts will provide premium to offset a depreciation of gold.

In addition to gold hedging, US trading partner currencies will necessarily have a risk to the $US depending on whether they are net importers or exporters of domestic product. Japan for example is a net exporter in the manufacturing industry and so investment in the Nikkei will have a have a sound hedge in $US ETF options. Japanese exporters comprising the Nikkei will be paid in $US and will need to convert those into Yen. The risk to Japanese investment therefore is a stronger Yen and a weaker $US. Yen ETF call options will be able to qualify the value of a hedge, as will the purchase of $US ETF puts. The sale of $US ETF calls or Yen ETF puts will raise premium to also offset any appreciation in the Yen when exporters seek to convert profits into local currency. In this manner the successful hedging of international equity investment is facilitated by currency EFT options rather succinctly.

 

 

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