The influence of currency risk on equities is less than that on overall portfolio risk, but it remains significant. Currency fluctuations are a considerable factor in portfolio volatility, particularly for eurozone and UK equities. However, Japan is an exception, as the yen often moves inversely to the domestic stock market.

We recommend that investors hedge the majority of their foreign exchange exposures in major developed markets (DM). Our strategy involves fully hedging fixed-income investments while leaving a portion of equity holdings unhedged, particularly for European investors. We provide our suggested hedge ratios for standard portfolios and advocate for permanent hedges rather than dynamically attempting to maintain a specific level of foreign exchange exposure.

While we acknowledge that there is potential for taking on foreign exchange risk in the short term, it’s important to consider that the liquid, round-the-clock market often reacts first to unforeseen events. We highlight several key factors that drive currency fluctuations, including policies that impact interest rate differentials, investor sentiment, technical aspects, valuations, and economic fundamentals.