Can Currency-Trading Strategies Hedge Currency Risks?

Currency-trading strategies can provide investors with an alternative of reducing portfolio currency risks. The notion of currency as an asset class ahs gained a wider following since the 1990s, particularly when traditional assets (i.e., equity and bond) returns dragged the overall investment performance. Recent studies have examined the profitability of various currency-trading strategies, yet seldom have they examined currency hedging abilities of these strategies. In my study, four typical currency-trading strategies are simulated in a well-diversified traditional international portfolio with a local currency in Taiwanese dollars. The Markowitz’s Mean-Variance optimization model (1952, 1959) is used to compare portfolios with currency-trading strategies and hedged traditional international portfolios in the aspects of risk-adjusted returns and hedging effectiveness. The results indicate that a currency-trading strategy having a favorable correlation with Taiwanese dollars lessens currency volatilities without losing risk-adjusted returns. We also found that the portfolio with a mixed currency-trading strategy delivers a superior performance compared to any other hedged traditional portfolio in our study period of 2002~2008. The results demonstrate that Taiwanese investors can benefit from investing in a mixed currency-trading strategy along with their international portfolios.