Foreign exchange — the risk that often isn’t risky
Investing in offshore shares is riskier than investing in New Zealand shares, because of the foreign exchange risk, right? Not necessarily. For many people saving for retirement, it’s actually riskier not to invest offshore.
Let’s start with why an international share investment is sometimes risky. If you invest in offshore shares or an international share fund, and then the value of the Kiwi dollar rises against the currencies in which you’re invested, when you finally bring your money back home you will receive less than if the dollar hadn’t moved.
The reverse is also true, of course. If the Kiwi falls, you will bring back more. But, given that it’s impossible to forecast what the Kiwi will do — and good economists admit that — a lot of investors are reluctant to take foreign exchange risk.
For many people, though, that’s only half the picture.
If you’re saving for retirement, consider what you will spend your money on after you retire. If, like many New Zealanders, you will live in a mortgage-free home, your accommodation costs will be quite low. You’ll need to buy food, of course, and many services, including health and entertainment.
Beyond that, though, you’ll probably spend quite a lot on imported goods, including cars, electronic equipment, music, books, clothes and so on. All going well, you’re quite likely to also spend a fair bit on overseas travel.
If all the savings to fund your spending on imports and travel is in New Zealand dollars, and the Kiwi dollar falls, those items will be more expensive for you.
But if you have offshore investments, the boost they get when the Kiwi falls will help you to pay the higher prices for the imports and travel.
And if the Kiwi dollar rises, reducing the value of your offshore funds, you will be compensated by the fact that imports and travel will be cheaper.
Head spinning? Look at it this way: the effects of foreign exchange movements on offshore investments and on import and travel prices cancel one another out. When one movement works against you, the other is working FOR you — leaving you neutral about which way our dollar moves.
Having offshore investments, then, actually lowers your risk — as well as giving you much broader exposure to different industries and economies, which in turn lowers your risk further.
For more information on foreign exchange risk and many other types of investment risk, you can get a free copy of a new 48-page booklet I’ve written, called “Snakes and Ladders: A guide to risk for savers and investors”.
It has been published by the Reserve Bank, which will mail you a copy if you email them at [email protected], phone them on 04 471 3770 or mail them at The Knowledge Centre, Reserve Bank, PO Box 2498, Wellington.
“Snakes and Ladders” is not trying to put you off taking risks in investment. People who are too cautious with their money can do themselves considerable harm too. If, for instance, you put long-term savings into term deposits, after 20 or 30 years you will probably end up with only half, or even a third, of what you might have accumulated in diversified shares or property.
The important thing is to understand what you’re doing when you venture beyond term deposits.
By the way, I don’t receive royalties on “Snakes and Ladders”, so I’m not trying to get rich by boosting inquiries!
Mary Holm is a freelance journalist, a director of Financial Services Complaints Ltd (FSCL), a seminar presenter and a bestselling author on personal finance. From 2011 to 2019 she was a founding director of the Financial Markets Authority. Her opinions are personal, and do not reflect the position of any organisation in which she holds office. Mary’s advice is of a general nature, and she is not responsible for any loss that any reader may suffer from following it.