Currency diversification is a strategy of investing in different currencies or currency-related assets, to enhance the performance and the resilience of your portfolio. Currency diversification can provide several benefits, such as higher returns, lower risks, and better diversification, but it can also pose some challenges, such as high volatility, low adoption, and ethical and environmental concerns. Therefore, currency diversification requires careful consideration and evaluation, and a balance between the opportunities and the risks. It is important for investors to understand the effects of currency diversification on their portfolio performance, and to adopt appropriate strategies and policies to optimize their currency diversification.
What is portfolio performance?
Portfolio performance is the measure of how well your portfolio achieves your financial goals, such as maximizing your returns, minimizing your risks, or balancing both. Portfolio performance can be evaluated by using various metrics, such as absolute return, relative return, risk-adjusted return, or Sharpe ratio. Absolute return is the total return of your portfolio over a period of time, expressed as a percentage or a dollar amount. Relative return is the difference between the absolute return of your portfolio and the absolute return of a benchmark, such as an index or a peer group, that represents your investment style or objective. Risk-adjusted return is the return of your portfolio per unit of risk, such as standard deviation or volatility, that measures the variation or fluctuation of your portfolio returns. Sharpe ratio is a common risk-adjusted return metric, that is calculated by subtracting the risk-free rate, such as the Treasury bill rate, from the absolute return of your portfolio, and dividing the result by the standard deviation of your portfolio returns.
How does currency diversification affect portfolio performance?
Currency diversification can affect portfolio performance in different ways, depending on the direction, magnitude, and duration of the currency movements, and the responses and reactions of the investors. Currency diversification can increase your portfolio returns, as it can expose you to the growth and the opportunities of different countries and regions, and allow you to benefit from the appreciation of different currencies. Currency diversification can also reduce your portfolio risks, as it can reduce the correlation and the volatility of your portfolio, and protect you from the adverse effects of currency fluctuations. Currency diversification can also improve your portfolio diversification, as it can add another dimension and layer of diversification to your portfolio, and complement your existing asset allocation.
However, currency diversification can also decrease your portfolio returns, as it can expose you to the decline and the challenges of different countries and regions, and make you suffer from the depreciation of different currencies. Currency diversification can also increase your portfolio risks, as it can increase the complexity and the uncertainty of your portfolio, and expose you to the potential losses of currency fluctuations. Currency diversification can also impair your portfolio diversification, as it can create overlaps and redundancies in your portfolio, and conflict with your existing asset allocation.
How to measure portfolio performance with currency diversification?
To measure portfolio performance with currency diversification, you need to use some tools and methods, such as:
- Currency converter. A currency converter is a tool that allows you to calculate the value of one currency in terms of another currency, based on the current or historical exchange rates. A currency converter can help you compare the prices of goods and services in different countries, and plan your budget and expenses accordingly. A currency converter can also help you decide when and where to exchange your money, and how much to exchange, to get the best deal and avoid unnecessary fees. You can use online tools, such as Xe, [Oanda], or Wise, to find the current and historical exchange rates, and to calculate the value of your money in different currencies.
- Currency attribution. Currency attribution is a method that allows you to decompose the total return of your portfolio into the return from the underlying assets, and the return from the currency movements. Currency attribution can help you identify the sources and the drivers of your portfolio performance, and evaluate the contribution and the impact of currency diversification on your portfolio performance. Currency attribution can also help you monitor and review your portfolio performance, and compare it with your goals and expectations. You can use online tools, such as Morningstar, to perform currency attribution analysis, and to generate reports and charts of your portfolio performance with currency diversification.
- Currency hedging. Currency hedging is a strategy that allows you to reduce or eliminate the currency risk of your portfolio, by using financial contracts, such as futures, forwards, options, or swaps, to lock in a favorable exchange rate for a future transaction, or to protect against unfavorable exchange rate movements. Currency hedging can help you optimize your portfolio performance with currency diversification, by enhancing or adjusting your currency exposure, and by balancing between return and risk. Currency hedging can also help you cope with the challenges and the pitfalls of currency diversification, such as high volatility, low adoption, and ethical and environmental concerns. You can use online tools, such as Wise, to hedge your currency exposure, and to get the best exchange rates and the lowest fees.
Conclusion
Currency diversification is a strategy of investing in different currencies or currency-related assets, to enhance the performance and the resilience of your portfolio. Currency diversification can affect portfolio performance in different ways, depending on the factors and the scenarios of currency movements, and the strategies and the policies of investors. To measure portfolio performance with currency diversification, you need to use some tools and methods, such as currency converter, currency attribution, and currency hedging, to compare, analyze, and optimize your portfolio performance with currency diversification. By doing so, you can enjoy the benefits and overcome the challenges of currency diversification, and achieve your financial goals.