How would a USD collapse affect dollar-denominated international ETFs?

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jajlrajrf
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How would a USD collapse affect dollar-denominated international ETFs?

Post by jajlrajrf »

This article got me thinking:

https://markets.businessinsider.com/new ... 1029618113

Let's take the premise of the article as true, for purposes of discussion: in 2021, the USD collapses and devalues against other currencies. Let's say by 2021 the Euro is much stronger against the USD than it is today.

Setting aside questions about the strength of the underlying securities, how does the currency movement affect mutual funds and ETFs such as Vanguard's VEA that play entirely in Euro markets? Do they increase in value because the underlying investments are in fact in Euro? Do they decrease in value because the ETFs themselves are valued in USD? Does it all cancel out? I don't understand this relationship, but I'd like to!
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by jhfenton »

jajlrajrf wrote: Mon Sep 28, 2020 10:31 am Setting aside questions about the strength of the underlying securities, how does the currency movement affect mutual funds and ETFs such as Vanguard's VEA that play entirely in Euro markets? Do they increase in value because the underlying investments are in fact in Euro? Do they decrease in value because the ETFs themselves are valued in USD? Does it all cancel out? I don't understand this relationship, but I'd like to!
Ignoring second order effects of currency volatility on companies' financials, the direct impact of a drop in the dollar on unhedged ex-US investments held by US investors would be an increase in the US dollar value of the ex-US investments.

So if the dollar dropped versus the euro and nothing else changed, the NAV of VEA would increase to the benefit of US shareholders. With 50% of our portfolio in ex-US investments, I like it when the dollar drops.
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by jajlrajrf »

Thanks for the explanation! (Are pure index funds like VEA hedged? Does that vary per-fund?)
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by neilpilot »

jhfenton wrote: Mon Sep 28, 2020 10:39 am
Ignoring second order effects of currency volatility on companies' financials, the direct impact of a drop in the dollar on unhedged ex-US investments held by US investors would be an increase in the US dollar value of the ex-US investments.

So if the dollar dropped versus the euro and nothing else changed, the NAV of VEA would increase to the benefit of US shareholders. With 50% of our portfolio in ex-US investments, I like it when the dollar drops.
So far I've been unsuccessful in finding an unhedged ex-US investment that fits the following criteria:
  • ETF or MF (ETF preferred)
    primarily in the euro and/or UK pound sterling market
    government and/or corporates bonds
    reasonable ER, ideally under 0.5%
Any recommendations?
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by jajlrajrf »

This article implies that VEA is unhedged, and mentions a few others besides. Unsure how reliable a source it is.

https://www.barrons.com/articles/tjx-an ... 1600786210
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by Robot Monster »

Some thoughts...

Petulant and I discussed something relating to this in another thread, which you may be interested to read. Here.

Here's a thought experiment. Imagine there were two companies, one French, the other US, whose sources of revenue matched (something like Sanofi and Apple whose revenue sources, as you can see below, are not entirely dissimilar.) If these two imaginary companies sold the same types of products, one would think they'd both be impacted by currency changes in the exact same way, no? On the other hand, if they sold different types of products, then we need to start considering what Petulant was discussing in the linked post. Also, if they import goods from other countries, that would also need to match. Any currency hedging the companies do would also need to match.

Now let's pretend we invest in a small-cap Japanese company that 100% sources its revenue from Japan. It also doesn't import any goods for use in manufacturing. It deals entirely in yen. One might think that, if you invested in such a company, and the dollar depreciated against the dollar, all things being otherwise equal, your investment would go up in value.

Revenue by region

Sanofi
39.7% US
27.55% Europe
32.75 Asia/Latin America/Eurasia/Africa/Middle East/Rest of world

Apple
43.8% US
24% Europe
32% China/Japan/Rest of Asia Pacific

***

Sanofi source
Apple revenue based on total revenue for q1 2019
Source
Last edited by Robot Monster on Mon Sep 28, 2020 11:08 am, edited 2 times in total.
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by nisiprius »

Presumably it wouldn't affect the dollar value of dollar-denominated international ETFs like the Vanguard Emerging Markets Government Bond Index Fund, since they are, in fact, dollar denominated bonds. They are contracts to pay out a certain number of dollars, so they would just pay out that number of dollars, which would now be worth very little. In other words, they wouldn't provide any protection.

NON-dollar-denominated investments, like Vanguard's international stock funds and ETFs, or non-dollar-hedged foreign bond funds from companies other than Vanguard, would become more valuable in dollars.

The value of the dollar relative to other currencies dropped about 40% from 2000 to 2008. During that period of time the Vanguard Total International Stock Market Index Fund did quite a bit better than the Vanguard Total [US] Stock Market Index Fund.

Source

Image

It amounted to an average of about 3.6% per year, or, overall, about 33% better than the US fund. Quite nice. Not life-changing.

In order for it to be life-changing you'd have to assume a lot of things:
  • the dollar truly collapses--the US economy collapses, we become like Venezuela
  • Every other important government is fiscally responsible and their currencies remain stable
  • A significant chunk of your accessible wealth is in foreign-currency-denominated investments (what percentage of your net worth is in your brokerage accounts? Of that, what percentage is in foreign-currency-denominated investments
  • The US government does not impose any kind of currency controls or restrictions on transborder currency or asset controls
  • The investment industry continues to function normally and you can log into the Internet, execute a sell order on your ETFs shares, see money in your bank account as "available funds" quickly, withdraw them as cash from an ATM machine, etc.
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by Robot Monster »

jajlrajrf wrote: Mon Sep 28, 2020 10:54 am This article implies that VEA is unhedged, and mentions a few others besides. Unsure how reliable a source it is.

https://www.barrons.com/articles/tjx-an ... 1600786210
VEA is unhedged, as is typical. The only international-type hedged stock fund that Vanguard has is the Vanguard Global Minimum Volatility Fund. Vanguard Total International Bond Index Fund also does hedging. Both these funds explicitly say they do currency hedging in their product summaries.
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by neilpilot »

jajlrajrf wrote: Mon Sep 28, 2020 10:54 am This article implies that VEA is unhedged, and mentions a few others besides. Unsure how reliable a source it is.

https://www.barrons.com/articles/tjx-an ... 1600786210
Not sure if you were replying to my post, but I already own VEA. It's an equity investment and I'm looking for bonds. Also, VEA is hedged against current fluctuation. It utilizes currency forward contracts

Edit - I now see conflicting information, and it seems VEA is not hedged. I had referenced an article that said it wasn't, but it was obsolete and/or simply incorrect.
Last edited by neilpilot on Mon Sep 28, 2020 11:15 am, edited 1 time in total.
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by Valuethinker »

jajlrajrf wrote: Mon Sep 28, 2020 10:31 am This article got me thinking:

https://markets.businessinsider.com/new ... 1029618113

Let's take the premise of the article as true, for purposes of discussion: in 2021, the USD collapses and devalues against other currencies. Let's say by 2021 the Euro is much stronger against the USD than it is today.

Setting aside questions about the strength of the underlying securities, how does the currency movement affect mutual funds and ETFs such as Vanguard's VEA that play entirely in Euro markets? Do they increase in value because the underlying investments are in fact in Euro? Do they decrease in value because the ETFs themselves are valued in USD? Does it all cancel out? I don't understand this relationship, but I'd like to!
"Collapse" covers a multitude of sins.

USD peaked against the GBP at nearly 1 to 1 in September 1985. Eventually fell to more than 2 USD: 1 GBP (actually you quote the FX rate, in this case "the Cable" ie USD-Sterling the other way around, but, whatever).

So there's a 50% move (over several years).

And the results?

Really quite hard to discern between US stocks and UK stocks (about 60% of earnings of UK FTSE100 companies are earned in USD).

However if you sold US Treasury bonds and bought gilts (UK govt bonds) you made out like a bandit.

I don't think, alas, that USD is going to 2 to the GBP anytime soon, so scratch my holiday in NYC post Covid, but if it did, well, markets would probably shrug and move on.

*Why* it did so might be a whole 'nother can of fish. Google turns out to be another Enron shell game. John Oliver is appointed Secretary of Defence (joking! his wife was a US Army medic in Iraq). Michael Powell admits he smokes cannabis products daily. Zombies attack the Mall, etc etc.

Also how fast it were to happen.

Currency hedged bond funds will take the hit. Equity funds, which are not currency hedged generally, will not - at least to the first order of the effect, although subsequently they may be adjusted.
Last edited by Valuethinker on Mon Sep 28, 2020 11:13 am, edited 1 time in total.
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by Robot Monster »

neilpilot wrote: Mon Sep 28, 2020 11:06 am
jajlrajrf wrote: Mon Sep 28, 2020 10:54 am This article implies that VEA is unhedged, and mentions a few others besides. Unsure how reliable a source it is.

https://www.barrons.com/articles/tjx-an ... 1600786210
Not sure if you were replying to my post, but I already own VEA. It's an equity investment and I'm looking for bonds. Also, VEA is hedged against current fluctuation. It utilizes currency forward contracts
You think Vanguard FTSE Developed Markets ETF (VEA) is hedged? It's not, though.
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by Valuethinker »

Robot Monster wrote: Mon Sep 28, 2020 11:13 am
neilpilot wrote: Mon Sep 28, 2020 11:06 am
jajlrajrf wrote: Mon Sep 28, 2020 10:54 am This article implies that VEA is unhedged, and mentions a few others besides. Unsure how reliable a source it is.

https://www.barrons.com/articles/tjx-an ... 1600786210
Not sure if you were replying to my post, but I already own VEA. It's an equity investment and I'm looking for bonds. Also, VEA is hedged against current fluctuation. It utilizes currency forward contracts
You think Vanguard FTSE Developed Markets ETF (VEA) is hedged? It's not, though.
Does this not underline why we should not use ABFU stock tickers to describe funds?

My whole premise in replying was that OP was talking about a hedged bond fund. Sorry I don't carry the tickers around in my head -- I don't even remember the tickers of the funds I do buy (which are all European tickers).
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by JackoC »

jhfenton wrote: Mon Sep 28, 2020 10:39 am
jajlrajrf wrote: Mon Sep 28, 2020 10:31 am Setting aside questions about the strength of the underlying securities, how does the currency movement affect mutual funds and ETFs such as Vanguard's VEA that play entirely in Euro markets? Do they increase in value because the underlying investments are in fact in Euro? Do they decrease in value because the ETFs themselves are valued in USD? Does it all cancel out? I don't understand this relationship, but I'd like to!
Ignoring second order effects of currency volatility on companies' financials, the direct impact of a drop in the dollar on unhedged ex-US investments held by US investors would be an increase in the US dollar value of the ex-US investments.

So if the dollar dropped versus the euro and nothing else changed, the NAV of VEA would increase to the benefit of US shareholders.
True, although ignoring the 'second order effects' of USD's foreign exchange value on local currency value of stocks of companies whose stocks are quoted in non-USD currencies is entirely unrealistic practically. It's fairly realistic for a fund composed of actual promises to pay a given number of units of foreign currency, like non-FX hedged foreign currency bond funds. Stocks listed in non-USD are seriously different than promises to pay a given number of units of the currency they are listed in.

But OP is starting at the beginning, and maybe simplest answer is to say that the unit of account of the ETF itself is of virtually no significance. If you could buy a Eurozone stock ETF denominated in EUR or an ETF containing the same exact basket of stocks denominated in USD there would be virtually no difference how the two performed in USD terms as the USD/EUR exchange rate changed (only to the minor degree one kept small cash balances in one currency or the other, or if expenses of one were more in one currency or another).

US and European company stocks do not perform close to exactly the same in USD terms when the USD/EUR exchange rate changes but assuming the difference in USD performance is proportion to the exchange rate change is not a useful estimate of the real world effect generally either, due to major USD-zone* business done by the Eurozone companies, non-USD business by US companies, transnational pricing practices by large companies which in many case ignore currency fluctuations to a surprising degree for surprisingly long periods, etc. For foreign stocks in general this relationship can be even weaker, lacking as big a source of business in a home currency market (which currency actually moves relative to USD) as Eurozone companies have. In past times of higher USD/JPY exchange rate volatility big cap Japanese company stocks were notorious for sometimes rising in USD value when JPY fell in USD value.

*the USD-zone is for now effectively much larger than it used to be as the Chinese economy is so much larger a % of the world's, as long as the RMB is largely pegged to the USD.
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by dml130 »

nisiprius wrote: Mon Sep 28, 2020 11:02 am
In order for it to be life-changing you'd have to assume a lot of things:
...
[*]The US government does not impose any kind of currency controls or restrictions on transborder currency or asset controls
...
Just wondering, on this point, would such restrictions imply that in such a (probably unlikely) scenario, US citizens would not be able to invest outside the US (for example ex-US etfs)? If so, does this happen (or has it happened) in other countries when they face such an economic crisis, or are these types of restrictions too complicated to carry out?
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by occambogle »

dml130 wrote: Mon Sep 28, 2020 12:05 pm Just wondering, on this point, would such restrictions imply that in such a (probably unlikely) scenario, US citizens would not be able to invest outside the US (for example ex-US etfs)?
U.S. citizens, whether residing in the US or not, wouldn't want to invest in ex-US ETFs/Funds even now because of punitive PFIC taxation.
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by quantAndHold »

Unless something has changed recently, Vanguard international stock funds are not hedged, but Vanguard international bond funds are hedged.
Yes, I’m really that pedantic.
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by neilpilot »

occambogle wrote: Mon Sep 28, 2020 12:11 pm
dml130 wrote: Mon Sep 28, 2020 12:05 pm Just wondering, on this point, would such restrictions imply that in such a (probably unlikely) scenario, US citizens would not be able to invest outside the US (for example ex-US etfs)?
U.S. citizens, whether residing in the US or not, wouldn't want to invest in ex-US ETFs/Funds even now because of punitive PFIC taxation.
To be clear, the thread is discussing ex-US investments, not ex-US ETFs subject to PFIC.
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by occambogle »

neilpilot wrote: Mon Sep 28, 2020 12:22 pm
occambogle wrote: Mon Sep 28, 2020 12:11 pm
dml130 wrote: Mon Sep 28, 2020 12:05 pm Just wondering, on this point, would such restrictions imply that in such a (probably unlikely) scenario, US citizens would not be able to invest outside the US (for example ex-US etfs)?
U.S. citizens, whether residing in the US or not, wouldn't want to invest in ex-US ETFs/Funds even now because of punitive PFIC taxation.
To be clear, the thread is discussing ex-US investments, not ex-US ETFs subject to PFIC.
Indeed, and my answer was specfically in case the previous poster was talking about ETFs/Funds domiciled outside the US. I realise this thread is about US-domiciled funds holding non-US assets, such as VXUS etc.
And it's a really interesting thread. As a U.S. citizen living abroad there is always the worry that purchasing power abroad will be diminished by potential USD downtrends.
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by dml130 »

I was asking about US domiciled funds such as VXUS, not funds domiciled outside the US, but the info is good to know anyhow. I'm curious how likely or possible (or unprecedented?) it is that countries force those types of funds to shut down in such an economic crisis.
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by JackoC »

occambogle wrote: Mon Sep 28, 2020 12:30 pm
neilpilot wrote: Mon Sep 28, 2020 12:22 pm
occambogle wrote: Mon Sep 28, 2020 12:11 pm
dml130 wrote: Mon Sep 28, 2020 12:05 pm Just wondering, on this point, would such restrictions imply that in such a (probably unlikely) scenario, US citizens would not be able to invest outside the US (for example ex-US etfs)?
U.S. citizens, whether residing in the US or not, wouldn't want to invest in ex-US ETFs/Funds even now because of punitive PFIC taxation.
To be clear, the thread is discussing ex-US investments, not ex-US ETFs subject to PFIC.
Indeed, and my answer was specfically in case the previous poster was talking about ETFs/Funds domiciled outside the US. I realise this thread is about US-domiciled funds holding non-US assets, such as VXUS etc.
And it's a really interesting thread. As a U.S. citizen living abroad there is always the worry that purchasing power abroad will be diminished by potential USD downtrends.
But as I mentioned, there is virtually no difference to be expected in the performance of US or non-US domiciled ETF's, which report their values in either USD or non-USD, due to foreign exchange rate changes *if they hold the same underlying assets*. The question of US v non-US domiciled is about tax and hypothetical considerations arising from government actions which might make it impractical for a fund one place to hold assets from another. As to the point of the question, USD FX value, that has basically no direct bearing on US v non US domiciled ETF.

Which is a hint to the more complicated answer to the more practical question about whether non-US domiciled companies' stocks might give higher returns measured in USD if the FX value of the USD declines against other currencies. The answer being, probably to some degree but it's a loose relationship quantitatively and difficult to predict. Like the ETF case, the fact that X company is domiciled in a particular country and quoted in a particular currency tells you nothing directly about the sensitivity of the underlying asset value to FX rate changes. In case of a company stock, there is a reasonable assumption in general that revenue and profit of the company is probably *somewhat* tilted toward the currency it uses as unit of account and in which its stock is quoted. But that 'somewhat' could be pretty small (the example of Nestle is often given, stock quoted in CHF on primary exchange and the company's unit of account, but ~2% of the company's sales are in Switzerland: considering Nestle stock as a promise of certain payments in CHF is largely wrong, considering an unhedged Swiss Confederation bond as a promise to make certain payments in CHF is correct, denomination and currency risk are not anywhere near a 1:1 mapping).

In general you can expect some more return for foreign stocks in USD terms with a weaker USD but the degree is highly uncertain. By the same token the validity of statements like 'allocating a moderate % to non-US stock increases your risk, because of currency risk you didn't used to have' is quite doubtful.
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by alex_686 »

dml130 wrote: Mon Sep 28, 2020 12:05 pm Just wondering, on this point, would such restrictions imply that in such a (probably unlikely) scenario, US citizens would not be able to invest outside the US (for example ex-US etfs)? If so, does this happen (or has it happened) in other countries when they face such an economic crisis, or are these types of restrictions too complicated to carry out?
I doubt this could ever happen. The US and the world are in a very deep web of cross relationships. As long as the US dominates international trade this could not happen without dire consequences for the US.

That being said, IIRC there was something similar to this idea back in the 60s. You were restricted to how much gold one could have, restrictions on tourist aboard. It was to defend the US gold standard. The plan mostly failed. Lots of loop holes, and there are more now. Plus we are on fiat money now.
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.
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Re: How would a USD collapse affect dollar-denominated international ETFs?

Post by Robot Monster »

Relating to this discussion about the collapse of the USD, it's interesting to note that J.P.Morgan is bearish on it, and is bullish on the euro (at least on a 12- to 18-month horizon.)

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