Currency Risk and Retiring Abroad

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Topic Author
rettir
Posts: 16
Joined: Sun Sep 11, 2016 7:15 am

Currency Risk and Retiring Abroad

Post by rettir »

Hi Bogleheads,

I'm an American very happy with my three fund Vanguard portfolio. I now live and work in the UK, and I suspect I may want to retire here. There's a fair amount of uncertainty inherent in this prediction because I'm only 29 years old.

Nonetheless, if I assume I will retire in the UK and the great majority of my investments are in dollar valued, US-based investments, I will be taking on quite a lot of currency risk. That is, the pound-dollar exchange rate will induce variability in the purchasing power of my portfolio without any expected gain, decreasing my risk adjusted return (I was clued into this when I read this thread).

This isn't good, so it seems like some kind of hedging is in order. In other words, I should be holding some amount of pound valued, UK-based investments. There are two tricky questions then - how much hedging should be done, and how to hedge given that I can't invest in UK index funds because of the PFIC law. TIA!
Valuethinker
Posts: 49017
Joined: Fri May 11, 2007 11:07 am

Re: Currency Risk and Retiring Abroad

Post by Valuethinker »

rettir wrote: Sun Mar 18, 2018 12:21 pm Hi Bogleheads,

I'm an American very happy with my three fund Vanguard portfolio. I now live and work in the UK, and I suspect I may want to retire here. There's a fair amount of uncertainty inherent in this prediction because I'm only 29 years old.

Nonetheless, if I assume I will retire in the UK and the great majority of my investments are in dollar valued, US-based investments, I will be taking on quite a lot of currency risk. That is, the pound-dollar exchange rate will induce variability in the purchasing power of my portfolio without any expected gain, decreasing my risk adjusted return (I was clued into this when I read this thread).

This isn't good, so it seems like some kind of hedging is in order. In other words, I should be holding some amount of pound valued, UK-based investments. There are two tricky questions then - how much hedging should be done, and how to hedge given that I can't invest in UK index funds because of the PFIC law. TIA!
I don't think you can hedge due to PFIC.

Your labour income will be in GBP. Your home equity, if you buy, will be in GBP. Maybe that is enough exposure?

UK equity indices track GBP imperfectly. Due to the high overseas exposure of the FTSE100, a 10% rise in same causes a 6-7% fall in Earnings Per Share (roughly). The movement (up) in the FTSE100 post the 10% Brexit devaluation is a case in point (roughly +7% against a -10% fall in currency). The FTSE 250 (the next 12% or so of the All-Share index, the F100 is around 85%) is more UK specific. (FTSE All-Share = 84% ish F100, 12% F250, 4% FTSE Small Cap).

Thus, you are just going to have to live with this risk. A global equity fund probably does it for you. Bonds hold in USD (if a GBP fund unavailable) and wear the volatility.

Good news, in 1913, the exchange rate was 1 GBP to USD 4.85. There have been rallies, but the exchange rate has been on a downward trend (for the pound sterling) since then. No sign, to my mind, that that is likely to change ;-). Wait til we have Brexited ;-).
Last edited by Valuethinker on Sun Mar 18, 2018 2:23 pm, edited 1 time in total.
Valuethinker
Posts: 49017
Joined: Fri May 11, 2007 11:07 am

Re: Currency Risk and Retiring Abroad

Post by Valuethinker »

rettir wrote: Sun Mar 18, 2018 12:21 pm Hi Bogleheads,

I'm an American very happy with my three fund Vanguard portfolio. I now live and work in the UK, and I suspect I may want to retire here. There's a fair amount of uncertainty inherent in this prediction because I'm only 29 years old.

Nonetheless, if I assume I will retire in the UK and the great majority of my investments are in dollar valued, US-based investments, I will be taking on quite a lot of currency risk. That is, the pound-dollar exchange rate will induce variability in the purchasing power of my portfolio without any expected gain, decreasing my risk adjusted return (I was clued into this when I read this thread).
Also consider that you are 29. So volatility in exchange rates is just that. Worry about how it will hit you retirement portfolio when you are 10 years before retirement-- there are so many uncertainties now that it is just another one-- no way of telling whether it will work for or against your advantage.

A last thought is your state pension will be in GBP. Granted, compared to US Social Security, the UK state is very stingy. But it's still a useful chunk of change, and fully indexed to inflation (politically I imagine that will always be the case). And for the forseeable future, your health care cost will be paid for by your taxation ie in GBP on both sides.

Main thing is not to totally screw yourself up on taxes, given that you are a US citizen, and that you may move again before retirement (or indeed several times).
Marketman
Posts: 196
Joined: Sun Feb 04, 2018 1:24 pm
Location: Texas

Re: Currency Risk and Retiring Abroad

Post by Marketman »

If you are serious about retiring in the UK, I would start to buy a significant chuck of my retirement nest egg in UK assets. Perhaps overweight by 2X or so the GB position relative to the world??? Since I live in the US and am a US resident all of this is not so critical, but I have wondered what is optimal for people who live in a small economy. Maybe some others in this situation can chime in.
TedSwippet
Posts: 5180
Joined: Mon Jun 04, 2007 4:19 pm
Location: UK

Re: Currency Risk and Retiring Abroad

Post by TedSwippet »

rettir wrote: Sun Mar 18, 2018 12:21 pmNonetheless, if I assume I will retire in the UK and the great majority of my investments are in dollar valued, US-based investments, I will be taking on quite a lot of currency risk. That is, the pound-dollar exchange rate will induce variability in the purchasing power of my portfolio without any expected gain, ...
Perhaps not as much as you might think.

The results you get from your three-fund Vanguard US based and USD-denominated portfolio will be the same as a UK investor would get if they held GBP-denominated funds that cover the exact same assets. The currency in which your funds are denominated does not affect the long-term returns. The only factors to consider are the currency in which you will spend and the currency of the assets held by the funds.

This article explains, with examples: https://the-international-investor.com/ ... rency-risk

It does look like currency hedging is off-limits to you thanks to PFIC, but to be honest most UK investors don't hedge either. There are two moves you could make though, that might perhaps balance you a bit better for possible retirement in the UK.

The first is to move from US treasuries only to a more global bonds holding. The second, if you do decide that overweighting the UK might be a good idea -- and I'm not saying that it is -- is to consider a US domiciled FTSE 100 tracker ETF such as iShares EWU. (You could of course get the same thing much cheaper locally in the UK, but your US citizenship and the US's spiteful PFIC rules get in the way of doing things the simple and obvious way.)

Unless you are investing inside a SIPP or ISA or 401k or IRA you will need to watch out for the UK's 'reporting fund status' tax regime. It's the UK's analogue to PFIC, and although much less horrible you will still want to avoid running afoul of it. Make sure that the US domiciled funds you hold are UK reporting funds -- many Vanguard US domiciled ETFs are. I'm not sure about EWU, but you can check the list here.

You might also run into problems just opening accounts in the UK because of your citizenship. And even where you can, US domiciled ETFs and funds might not be available because none of them conform (yet, but may never) to new EU MiFID II regulations. Interactive Brokers is reported to still be serviceable for US citizens living outside the US, though.
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randomizer
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Re: Currency Risk and Retiring Abroad

Post by randomizer »

If you are young, you are probably heavily weighted towards equities. In that case, what matters is the number of shares you own and not the currency you used to buy them. Bonds on the other hand...
87.5:12.5, EM tilt — HODL the course!
Topic Author
rettir
Posts: 16
Joined: Sun Sep 11, 2016 7:15 am

Re: Currency Risk and Retiring Abroad

Post by rettir »

Thanks everyone!
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Hyperborea
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Re: Currency Risk and Retiring Abroad

Post by Hyperborea »

If you haven't already done so and you are seriously thinking about living the rest of your life in Britain then you should consider taking UK citizenship. That will ensure that you are allowed to stay. A more difficult second step but one that would greatly simplify your financial and tax life would be to give up your US citizenship. It's not a step that is useful to just about any other national but due to the US's singular taxation based on citizenship it's a step that might be helpful. If you do plan to make that step then do so before you would be subject to the punitive expatriation taxes. The current net worth limit is US$2 million but that is not indexed for inflation.
It’s not just that facts don’t seem to matter anymore. It’s that it doesn’t seem to matter that facts don’t matter.
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