Tuesday, August 26, 2008

Introduction to Currency ETF’s

There are many currency ETF’s out there covering not only major pairs such as the Euro, British Pound, Japanese Yen and Swiss Frank but other exotic currencies such as the Chinese Yuan and the Brazilian Real. Currency ETF’s provide investors with instruments that trade like stocks and could be bought, sold and sold short at any time that the stock market is open. Several companies offer ETF’s on currencies and those include Barclays Bank, Deutsche Bank, Morgan Stanley, Wisdom Tree and Rydex.

In the process these companies have raised almost 4.6 billion dollars for exchange traded funds or notes which simply hold underlying currencies. I didn’t include other ETF’s that used strategies such as doubling the exposure to a specific currency, using a yield harvesting approach or ETF’s tracking the US Dollar Index.

Before you rush into currency ETF’s however there are the annual fees of .35% to 0.45 % for you to consider.

In addition to that, because currency ETF’s trade just like individual stocks you have to pay a commission to enter and exit the fund.

Thus on a $1000 investment in a currency ETF, you underperform the underlying by the amount of management fee, 0.4% plus a commission to buy the etf, which will vary from $4 at Sharebuilder to $7 at Scottrade.

If you must buy and hold or simply trade a currency then why don’t you simply open a forex account at a well known broker such as Oanda, and then don’t pay any management or stock trading fees. In addition to that Oanda will add the interest to your account on a daily basis, which allow for a faster compounding of the principal.

The only reason why one would hold currency etfs as opposed to opening an account with a forex broker is if their 401K plan only offers a currency etf and the investor must have some foreign currency exposure in a non taxable account.

To summarize whenever you think about buying a new investment product stop for a second and think how you could save money. Always check for alternatives whenever there are fees that you can avoid. If investors listen to this message, then they will save approximately 19 million dollar annually just from avoiding annual management fees. How much could be saved from avoiding trading commissions could probably end up in millions of dollars as well.
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