Portfolio rebalancing - different currencies

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emil1369
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Portfolio rebalancing - different currencies

Post by emil1369 » Tue Jan 09, 2018 2:40 pm

Hello all

Maybe this question has been asked and answered before, but I don't know how to put it in searchable terms.

I have a portfolio divided into two currencies - ILS and USD, 30 and 70 per cent, respectively.
My local currency is ILS, so that is how I view my portfolio.

Now, I know how to balance each individual asset, that is easy, obviously.

What I don't know, is what to do with the two parts, when they deviate from their 30 and 70 per cent marks.

Or, on the flip side, what to do when the USD assets are growing, but adjusted to ILS, they stay the same, because the USD went down.
So, let's say, in dollars, S&P 500 grew 20 per cent since I last looked, but in ILS, it is still at the 15 per cent mark of my total portfolio, where it should be.

How do I adjust for that?
Any suggestions?


Thanks,
Emil

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grabiner
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Re: Portfolio rebalancing - different currencies

Post by grabiner » Tue Jan 09, 2018 11:47 pm

Convert everything to the same currency. It's probably best to convert to your local currency, since this will also tell you how much you have, but your asset allocation is the same whether it is in shekels or dollars.
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ivk5
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Re: Portfolio rebalancing - different currencies

Post by ivk5 » Wed Jan 10, 2018 5:00 am

grabiner wrote:
Tue Jan 09, 2018 11:47 pm
Convert everything to the same currency. It's probably best to convert to your local currency, since this will also tell you how much you have, but your asset allocation is the same whether it is in shekels or dollars.
I would add a nuance. Assets should be held in the currency of the expected future expenses they are intended to be used for, to manage forex risk (avoid unintended speculation). Perhaps OP has planned this 70/30 currency split in anticipation of a mix of USD/ILS expenses. If so, I think it's reasonable to include the currency allocation as a rebalancing factor.

Agree that the only asset allocation that matters is generally that of the portfolio as a whole, but if the allocation within each currency is significantly different due to asset placement, there will be a need to periodically rebalance between currencies to maintain the currency allocation.

IMHO in this scenario (relatively unusual for US investors, but perhaps not uncommon ex-US) I would consider replicating the asset allocation in each currency, and I would consider using a single fund/ETF approach if possible (eg target date where available), to drastically simplify the task of simultaneously maintaining both a target AA and target currency allocation.

emil1369
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Re: Portfolio rebalancing - different currencies

Post by emil1369 » Wed Jan 10, 2018 3:56 pm

I would convert everything to USD, if anything.

The Israeli stock market is very limited, compared to the US stock market, as is to be expected.
There are a lot less assets to pick from, especially as far as ex-Israel exposure, and what little there are, are much more expensive to hold.
No 0.09 like in SPY or 0.07 like in VTI, not even close.

Also, another reason 70 per cent is in USD is that we may at some point move to the States, at least for some period of time.

Also, isn't it a good idea to minimize exposure to the local market and currency and avoid the dreaded home bias?
I'm already getting paid in shekels, have my pension fund in shekels, pay social insurance in shekels - why not diversify my portfolio?

Seems very limiting to keep everything in NIS, and I never really considered it ( I'm definitely not going to convert now when the dollar is so weak), but maybe I should.

In any case, that's a theoretical discussion. In practice, I like the idea of using target funds, I'll look into that.

Any other suggestions on how to adjust for currency fluctuations that prevent each asset from reaching the rebalancing trigger?

Thanks all.

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grabiner
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Re: Portfolio rebalancing - different currencies

Post by grabiner » Wed Jan 10, 2018 9:06 pm

ivk5 wrote:
Wed Jan 10, 2018 5:00 am
grabiner wrote:
Tue Jan 09, 2018 11:47 pm
Convert everything to the same currency. It's probably best to convert to your local currency, since this will also tell you how much you have, but your asset allocation is the same whether it is in shekels or dollars.
I would add a nuance. Assets should be held in the currency of the expected future expenses they are intended to be used for, to manage forex risk (avoid unintended speculation). Perhaps OP has planned this 70/30 currency split in anticipation of a mix of USD/ILS expenses. If so, I think it's reasonable to include the currency allocation as a rebalancing factor.
(I am not suggesting a physical conversion, but a mathematical conversion; in order to rebalance your portfolio, find out how many USD you have in each asset class.)

The currency risk of investment assets depends on what country the actual assets are in, not what country the investment is traded in. A fund which holds US stocks will have the same ILS return whether it quotes its price in USD or ILS. A fund which holds Japanese stocks is subject to the risk of changes in the yen even if it quotes a price in USD and is traded on a US market.
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emil1369
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Re: Portfolio rebalancing - different currencies

Post by emil1369 » Thu Jan 11, 2018 4:39 am

That's exactly it.

I can view my portfolio in two ways - one which only shows me the USD portion(70%), in USD.
Or a total view - shekels and USD converted to shekels.

So I do know how much I have in total, and that is exactly how I decide whether or not it is time to balance - there's a column of per cent of total portfolio, for each asset.

And that is exactly my predicament - In shekels, VTI is stuck at 15 per cent of the total portfolio, even though it's gone up 20 per cent since I last rebalanced, and had the dollar stayed put, I'd be rebalancing now.

Regarding your second statement - I realize that currency risk depends on the country of the assets, and I'm using that to my advantage I think.
I have shekels, USD and whatever underlying currencies there are in my ETF holdings, around the world. Many eggs in many baskets.

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in_reality
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Re: Portfolio rebalancing - different currencies

Post by in_reality » Thu Jan 11, 2018 5:28 am

emil1369 wrote:
Thu Jan 11, 2018 4:39 am
And that is exactly my predicament - In shekels, VTI is stuck at 15 per cent of the total portfolio, even though it's gone up 20 per cent since I last rebalanced, and had the dollar stayed put, I'd be rebalancing now.
Why is that a predicament? Isn't that the norm?

Every US based investor who owns international stocks is determining their asset allocation in part on how the USD does. Even if international returns are good, if the USD strengthens more, they may need to add international stocks.

Why not just follow your AA.

HYPOTHETICAL EXAMPLE:

20% bonds ILS
5% real estate ILS
5% stocks ILS
35% US Stocks USD
35% global stocks VARIED but USD denominated

Simply convert all assets to ILS values and rebalance on that.

I don't know any US investors who split out international performance in terms of stock returns VS currency returns. (for US investors) If international stocks (in their local currencies) are up 500% and US stocks are flat but the USD is up 500%, why is any rebalancing needed? The value of the international holdings in USD hasn't changed.

I think the same applies to you, so I don't understand the predicament. When shekel is strong, don't you want to acquire foreign assets? And when the shekel is weak, wouldn't you be selling them? That's how I'd expect rebalancing to work anyway.

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Re: Portfolio rebalancing - different currencies

Post by ivk5 » Thu Jan 11, 2018 5:37 am

Yes, I understand it's the currency of the underlying assets rather than how particular funds/securities are denominated/traded that matters.

@in_reality, I think the issue here is that OP is uncertain as to whether future expenses are in ILS/USD and in what proportion, hence trying to reconcile looking at it both ways.

@emil1369, it may help to look at this as a "strong shekel" rather than "weak dollar" issue. The recent appreciation of the shekel means that your ILS-based assets have gotten a boost relative to your USD-based ones, and relative to your overall allocation; your USD-based assets have taken a hit relative to your ILS-based ones and relative to your overall allocation. You can see/adjust the overall allocation by converting current values to a(ny) single currency.

IMO, to the extent that you have future liabilities in ILS, that needs to be weighed against the risk of home country bias in portfolio construction. Your 30% allocation to ILS-based assets may reflect where you've personally decided to strike that balance. If you fully planned to remain in Israel and have only ILS expenses in the future, 30% might be lower than I'd be comfortable with, but it's a moot point since that's not your situation.

You might see this as missing out (in ILS terms) on USD stock market appreciation, but the alternative view is that your significant exposure to non-ILS assets saved you from the significant erosion of buying power (for future non-ILS expenses) that you would have experienced with 100% ILS-based assets due to the shekel's appreciation.

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in_reality
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Re: Portfolio rebalancing - different currencies

Post by in_reality » Thu Jan 11, 2018 7:08 am

ivk5 wrote:
Thu Jan 11, 2018 5:37 am

@in_reality, I think the issue here is that OP is uncertain as to whether future expenses are in ILS/USD and in what proportion, hence trying to reconcile looking at it both ways.
Sure, I understand the dilemma of what to set the AA at not knowing what future expenses will be spent in.

But I wouldn't go so far as separating local returns from the value which reflects currency fluctuations.

For example, if the Shekel continues to strengthen, it's worrisome if retirement will be in ILS. But consider too, that means the 30% of Israeli exports will be hurt. Profits will be down. Israeli domestic production will face challenges from imports. There will likely be deflation which weakens the currency. And sure exports increased recently even as the Shekel rose, but eventually it'll have an effect and a very strong shekel might be offset by poorer economic performance. And then the economy could go through a downturn and the Shekel weaken. Sure Israel may have have characteristic which mitigate the dynamic but I doubt it's completely inescapable.

Similarly if the shekel weakens a great deal, exports will benefit and Israeli exporters will rise as their cheap profits bring handsome profits. Local producers will not face such tough competition from importers and should see their stocks rise. Stock performance will be good but the value diminished from the weak currency.

So local returns and currency strength seem interrelated to me. Granted it's a long term dynamic, unpredictable and diversification is best; but I don't see the feasibility of trying to separate them.

If you believe the shekel can strengthen long term without weakening the economy and that there is a good chance of needed to spend in shekel, then wouldn't one simply set a higher AA for shekel assets and continue to rebalance normally with currency fluctuation as part of the calculation.

emil1369
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Re: Portfolio rebalancing - different currencies

Post by emil1369 » Thu Jan 11, 2018 10:47 am

Upon reading these last replies from @in_reality and @ivk5, I realized that my problem was not mathematical or theoretical , but perceptional.

I look at my portfolio, which I haven't touched in over a year, and see that various assets have gone up, in nominal terms, by quite a lot. So, immediately I start to think that something needs to be done, i.e. rebalance.
It's an itch, a fear of missing out on returns.
Not rational.

But when you look at it like @in_reality suggested, future expenses aside, then of course, nothing needs to be done, obviously.

I kept saying to myself that this is a unique problem that ex-US investors have, but once you explained it through the eyes of a US based investor, who still has to deal with currency fluctuations, that's when the penny dropped, for me.

Thanks a lot, everyone.

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Re: Portfolio rebalancing - different currencies

Post by Epsilon Delta » Thu Jan 11, 2018 1:43 pm

ivk5 wrote:
Wed Jan 10, 2018 5:00 am
IMHO in this scenario (relatively unusual for US investors, but perhaps not uncommon ex-US) I would consider replicating the asset allocation in each currency, and I would consider using a single fund/ETF approach if possible (eg target date where available), to drastically simplify the task of simultaneously maintaining both a target AA and target currency allocation.
This does not make sense.

If the assets in both portfolios are the same (e.g. total world stock market index and total world bond index) then the investment currency does not matter. If the assets are different (e.g. US Treasuries and Israeli government bonds) then the allocation cannot be the same.

The possible advantage to using different nominal currencies is having custodians in different legal systems and perhaps a very small savings in currency conversion fees.

ivk5
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Re: Portfolio rebalancing - different currencies

Post by ivk5 » Thu Jan 11, 2018 2:59 pm

Epsilon Delta wrote:
Thu Jan 11, 2018 1:43 pm
ivk5 wrote:
Wed Jan 10, 2018 5:00 am
IMHO in this scenario (relatively unusual for US investors, but perhaps not uncommon ex-US) I would consider replicating the asset allocation in each currency, and I would consider using a single fund/ETF approach if possible (eg target date where available), to drastically simplify the task of simultaneously maintaining both a target AA and target currency allocation.
This does not make sense.

If the assets in both portfolios are the same (e.g. total world stock market index and total world bond index) then the investment currency does not matter. If the assets are different (e.g. US Treasuries and Israeli government bonds) then the allocation cannot be the same.

The possible advantage to using different nominal currencies is having custodians in different legal systems and perhaps a very small savings in currency conversion fees.
You're right, poorly phrased on my part. What I intended to propose was replicating the desired equities/FI split with both israeli and non-israeli assets- something like the below, assuming target of 60/40 equities/FI

30% israeli assets, consisting of
18% total israeli stock idx
6% total israeli bond idx

70% non-israeli assets, consisting of
42% total world stock idx
28% non-israeli bond idx [total US bond idx or split US/intl]

Caveats:
- no idea what is actually available for investable indexes in Israel and have not researched
- disregarding trading/reporting currency since as noted upthread it's not relevant to currency exposure

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