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Chart Essays

A picture is worth a thousand words ---- except that sometimes pictures can be misleading! In the "Chart Essays" section we present small nuggets of analysis based on charts or "pictures".

Key concept: unhedged currency exposure.

Chart Essay #1: January 2009

Commodity Returns from a Canadian Perspective

Or, What You Saw Might Not Be What You Got!

It's a good thing that there are so many public data sources available over the internet and in newspapers --- investors can observe and track even esoteric investment vehicles with little trouble. But sometimes a little care must be taken when you don't live in a US dollar-based country.

For example, we've all followed the incredible rise in commodities from early 2003 to the peak in mid 2008, with every newspaper and financial website featuring stories on the topic as the market rose. Figure 1 shows the monthly index values for the GSCI (Goldman Sachs Commodity Index) from the end of February, 2003 (roughly corresponding to the global equity market lows) to the end of 2008. From the starting value of 4556.68 to the peak monthly value of 10,558.65 on June 30, 2008, the index gained 131.7%, or 17.07% annualized. The rapid crash from June to December saw a loss of 62.16% to end at 3,995.39, below the starting point 6 years earlier.

Figure 1

While these are the facts, they are not all of the facts! For a Canadian, living in a Canadian dollar (CAD) world, the additional fact is his currency. Figure 2 shows more of the story. First, for easy comparison the GTX has been rebased to start at 100, and a second version of the index has been created with the same starting value showing the index levels in Canadian dollars. Note the differences!


Figure 2 reiterates that the GTX index in $US rose 131.72% from 100 to 231.72 --- obviously the same increase as in Figure 1. But the index in CAD rose just 59.44% (9.14% annualized), from 100 to 159.44. Thus in US dollar terms, the GTX rose approximately 2.2 times more than it did in Canadian dollar terms. So as a Canadian investor, if you held the GTX index, you read in the newspaper that you made 131% over 5 years, but you actually made 59% — a strong return, but perhaps not what you were thinking you were getting!

Figure 3 shows the reason directly: the Canadian dollar started this period at 1.4846 (Canadian dollar per US dollar, on the right hand scale) and rose to .9431. At the peak of the GTX, the rate was still 1.0215 — the US dollar had fallen in Canadian terms by 31%. Clearly currencies can have a significant, and someties unanticipated, impact.


This phenomenon is called "unhedged exposure to currencies". The flip side is that in the 6-month commodity decline, starting in July 2008, the GTX in Canadian dollars fell 54.9% versus 62.16% in USD, a slightly less terrible result, because the CAD was beginning to fall again against the USD.

We think it is fair to say that exposure to foreign currencies, and its actual and potential impact on investments, is little discussed or understood by most investors. Almost all investment products that invest in non-domestic assets have unhedged currency exposures.

It is very difficult for smaller investors to obtain "hedged" currency exposure, which (roughly) generates the returns available in the foreign currency. Currency hedging removes most of the impact of changes in an investor's own currency relative to the foreign currency of the assets held. We will discuss this issue a little more in Chart Essay #2.

Structured Capital presents a book by Tim Appelt:

How do you get THERE from HERE?
Learning and Playing the Long-term Investment Game

frontcoverHistorical analysis of long-term global equity and bond returns is used to develop an analytical framework for a historical attribution of returns. In turn this attribution approach is used to develop expectations of future returns that acknowledge the past but take into account current market conditions.

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