In the very long run, neither currency hedging nor inflation hedging pays off for investors' returns, according to an annual report by the London Business School and Credit Suisse.
For investors in most countries, the impact of currency changes over the past 113 years has been “modest,” and currency in real terms (adjusted for purchasing power) has been fairly consistent over the period, according to the Credit Suisse Global Investment Returns Yearbook 2012 by Elroy Dimson, Paul Marsh and Mike Staunton. Messrs. Dimson and Marsh are emeritus finance professors at London Business School, while Mr. Staunton is director of the school's London Share Price Database.
Meanwhile, few assets effectively hedge inflation, and the one that does — indexed-linked government bonds — offered negative yields in the U.S., U.K. and Canada as of Dec. 31.
“If we want to hedge ourselves against inflation, we will get a poor return for that,” Mr. Dimson said at a Feb. 7 news conference in London.
Currency movements can be significant and hedging decisions can be meaningful, the professors said. During the 40-year period ended Dec. 31 (the post-Bretton Woods era), U.S. investors would have benefited from not hedging. Annualized equity returns of 6.1% were boosted 140 basis points annually by not hedging equities, while bond returns of 4.6% benefited from a 150-basis-point fillip.
While currency hedging might be effective over shorter periods, across all countries it's a zero-sum game, the yearbook authors state. That is, currency movements that boost returns on U.S. investors' European holdings similarly reduce Europeans' U.S. investment returns.
“Don't think of (currency) hedging as something you do to enhance returns; it's something you do to decrease risk,” Mr. Marsh said at the news conference.