Diversifying as solution to a declining currency

Most of those who have been affected by the shrinking greenback are people who have all their income in dollars, savings in dollars and investments in dollars. Or dollar-related. If you were not diversified or at least hedged, you would be feeling completely exposed to the tumbling dollar. If you were diversified, the net effect would have been moderated.

Trends tend to run, and tend equally not to be anticipated when they suddenly turn around. The dollar's slide is expected to continue this way for some time, at least until the US starts raising interest rates and applies some form of exit strategy on its stimulus.

So, it would seem a pretty good idea to take a look at your investment portfolio. Better to have done it before, but it's never too late to take managing your money seriously.

So, how now to recalibrate your asset allocation, to hedge at least against a continuing dollar decline?

Declining asset or not, the usual mantra of any investment planning holds true: depending on personal goals, investors should keep an eye on the investment horizon and be diversified in some way if they want to protect a portfolio's growth.

"People need to keep an eye on their investment timescale, as it is quite likely that the goals they eventually wish to use the money for will be priced in other currencies, as so many people here are expatriates," says Stuart Birch, financial consultant at Dubai-based Acuma Wealth Management.

An example from Birch: if one is investing for retirement or to buy a property back home, she needs to be aware if her US dollar investments are worth less (compared to that other currency) at the time when she needs them.

The currency of your income and that of your long-term expenses are more important considerations, he adds.

Of course, it's not just about the dollar, whose sinking is just the flavour of the (lasting) moment. Diversification is generally important too in order to overcome the problems of price decline of any asset.

"To deal with this short-term situation of currency prices or asset prices, it is very important to diversify among asset classes and within each asset class to also diversify among sectors, markets and geography," says Fadi Al Said, head of equities, Middle East, ING Investment Management.

Deon Vernooy, senior executive officer. asset management, Emirates NBD, agrees: "In a weak [US dollar] environment, dollar-based investors should ensure that their portfolios are properly diversified also regarding the currency exposure. The only caveat is that investors should be careful not to create an unintended mismatch between assets and liabilities."

Commodities and Gold

If you want to diversify away from the dollar, clearly anything that is negatively correlated with dollar is a good option that usually means commodities and gold, Fadi says.

Though analysts differ on when most of the central banks are likely to begin to withdraw the stimulus and tighten monetary policy Australia and Norway have raised their interest rates  many agree it would be in the second or third quarter of 2010.

In a potentially inflationary world, with dollar weakness instrumental in that process, gold may be a good hedge, says Farhan Mahmood, head of investment management, Morgan Stanley, Saudi Arabia.

Of course, foreign exchange reserve diversification is also playing its part in dollar weakness. And gold is already reflecting that expectation. Investors now have to weigh how far down that road we have already gone.

If gold is still attractive to you, believing the dollar decline story will run and run, then "a gold ETF is an option for those looking to avoid the hassle of holding physical gold," Mahmood adds. Any assets that are priced in different currencies, like the British pound or euros, also represent another way to diversify away from dollar, Fadi says.

"This doesn't mean that people holding dollars should necessarily shed them now, because you saw what happened to the dollar in 2008. It still is considered to be the [leading] safe haven. People think it is [relatively] a low-risk currency, and when they are risk-averse, they sell ‘risky' assets and ‘risky' currencies and buy US dollars instead," Fadi says.

In other words, the situation can snap back, and timing is everything.

Birch agrees with Al Said. "However, I always advise people to invest over the medium to long term, rather than engaging in short-term speculation — this strategy works for Warren Buffett — and, as such, any short-term dollar weakness is not necessarily a reason to have a mass shift of your investment assets."

Equities may well hold promise too, even after a continuous surge this year in different global stock markets which has led some experts to believe that the rally might now peter out, as the world economy is slow to back up that performance. "From the perspective of UAE investors, I believe a weaker US dollar can be hedged through equities," Mahmood says.

Basket of allocations

A good idea may be to go with a basket of geographical allocations, towards equities from European, emerging Asian and commodity-rich countries, Mahmood says, adding all his investment advice given here should be evaluated in the context of a longer term, that is, five year investment horizon.

There's still that cautionary note. "Given the 60 per cent average gain by MSCI World since its March lows, a pull-back in equity markets before year-end is likely. We can expect increased choppiness ahead as investors rebalance their portfolios and position for 2010 expectations," Mahmood says.

To Birch, emerging markets funds represent a particularly interesting opportunity, when taken as part of an overall portfolio, and subject to one's own appetite for risk and volatility. "These allow you to gain exposure to growth regions such as China and Latin America, and are usually priced in US dollars," making them accessible, he notes.

As ever, the final word boils down to common sense.

If you're concerned to manage your assets, you need to sit down and work out how much time you can spare to following the markets (whether equities or foreign exchange), and how much risk you're prepared to take. That can go a long way towards arranging things so you can worry less about the dollar or equities or anything else you invest in.