Case for Currency Hedging: Weak Currency Benefits Europe and Japan

Key Takeaways

  • Weak currencies can benefit Japanese and European companies with substantial overseas business operations, leading to limited incentives for the countries to significantly strengthen their currencies.
  • The U.S. is more accepting of Japan and Europe maintaining weak currencies as a check on the rise of Chinese exports, benefiting its allies in their competition with China.
  • Currency hedging, whether through dynamic or fully hedged strategies, has delivered risk reduction and return enhancements for many developed international portfolios.

In today’s complex global economy, currency fluctuations play a crucial role in shaping investment outcomes. While we’ve previously emphasized the importance of currency hedging in a U.S. investor’s international portfolio, there’s a subtle aspect that often goes unnoticed: the positive impact of weak currencies for Japanese and European companies and U.S. tolerance of it as a check on Chinese exports.

Headlines often focus on the unhappiness caused by currency devaluation and volatility, particularly in the Japanese yen. However, a weak yen can actually benefit Japanese companies because many of these companies have substantial overseas business operations. The same holds true for most European companies. As a result, Japan and Europe reap the rewards of weaker currencies, and the incentives for them to significantly strengthen their currencies are limited.

Figure 1: A Closer Look at Revenue Sources

A Closer Look at Revenue Sources

For each Fund’s full standardized and most recent month-end performance, please click the respective ticker: DXJS, DXJ, IHDG.