Many investors think about the Canadian dollar’s valuation in simple terms — a weak loonie is bad, a strong one goes unnoticed. There’s a great deal more to how our dollar trades relative to the greenback and other currencies, of course. When it makes news the way it has in recent weeks, talk to your clients about currency risk and how you’re managing that on their behalf. It’s an opportunity to showcase your value.

That’s the recommendation of Andrew Pyle, senior investment advisor and portfolio manager with CIBC Wood Gundy in Peterborough, Ont. “This is really a time where we have to start looking at the long-term picture, where the Canadian dollar could go and how that would impact whatever allocations that client has in the U.S. equity market [and other markets],” he said.

Start with “really simple concepts that clients understand,” Pyle said.

Depending on the client’s exposure, you can also discuss how the Canadian dollar stacks up against currencies in other regions like Europe and Japan, and how that could impact client portfolios over the short, medium and long term.

Here’s a simple example. Your client holds shares of Microsoft Corp., listed on the New York Stock Exchange. They’ve decided to exit the position, but haven’t considered that a currency exchange occurred when they made the purchase and that the sale price is in U.S. dollars.

Remind your client of all this, and then explain other potential scenarios in which the valuation of both currencies could impact the client’s return.

During these conversations, Pyle highlights the importance of having exposure beyond Canadian securities for diversification purposes and how they can use hedging strategies — such as allocating to currency-hedged investment funds and Canadian depository receipts (CDRs) — to minimize currency risk. CDRs allow investors to buy and sell shares of foreign companies in Canadian dollars and on Canadian exchanges.

“That’s a perfect opportunity to have that conversation with the client, because you now are explaining that recommendation, the rationale behind that recommendation, why you think it’s better for the client and you’re getting into that risk management discussion,” he said.

Plain language matters

Kelly Ho, a certified financial planner and partner with DLD Financial Group in Vancouver also recommends approaching currency risk in a simple way and using relatable everyday examples.

“Using too much jargon overcomplicates the concept,” she said.

Ho likes to use the “shoe example.” She explains to clients how much it would cost a Canadian to purchase a pair of shoes in the U.S. — based on the value of the currencies in the two countries — and relates that to investing.

“When the Canadian dollar is high, it costs us zero Canadian dollars [on top of the price of the shoes] to purchase something in the U.S. And when the Canadian dollar is low, it costs more Canadian dollars to purchase [shoes] in the U.S.,” Ho said. “It’s the same in the investment world. … If there’s been huge fluctuations with currency, then that’s really where the risk is.”

When building portfolios for a client with a short time horizon, Ho explains to the client that because they don’t have a lengthy period of time in which to recover from currency fluctuations, it’s best to manage the currency risk more conservatively.

On the other hand, a client with a long time horizon, can absorb a higher level of currency risk.

Currency risk is “very tough” to manage manually, said Ho. Portfolio managers are experienced at hedging against currency risk, which “removes some risk off the table” in the long term, she added. “When you have a portfolio … that’s long term and diversified, it typically evens out the currency risk,” Ho said. Exposure to securities trading in a variety of currencies can be hedged against one another.

If there is a need to tweak a portfolio to a more appropriate allocation mix, advisors must discuss this with their clients and find what is suitable for them, Ho said.

Historical examples and visuals

Pyle said he often shows clients a long-term chart, dating back 50 years, to help them see various cycles the Canadian dollar has gone through, including when it’s gone from dips to extreme highs and vice versa. He explains what these cycles meant for investors.

“This really doesn’t have to be a forecast exercise for the client. We’re not going to sit there and say, ‘As the advisor, I’m predicting that we’re going to go from 69 cents to 80 or 90 or a dollar, [compared to the U.S. dollar],” he said. “It’s really looking at those cycles over time where the Canadian dollar has appreciated [or depreciated] by various percentages, and … looking at valuations during those periods of time.”

Martin Roberge, portfolio strategist and quantitative analyst with Canaccord Genuity Group Inc. in Montreal, is also keen on visuals. “A chart is often, as we say, worth a thousand words,” he said.

Roberge recommends advisors share a chart with their clients that shows the performance of the S&P/TSX Composite Index and S&P 500 from 2000–2009.

This was an “obviously tough environment” for equity investors because the S&P 500 dropped about 25% in value during this decade, while the Canadian dollar appreciated by 35%, Roberge said. “So if you are a Canadian investor who put your money in U.S. equities at the peak of the dot-com bubble in 2000, well, you lost 60% of your investment.”

This period, Roberge said, underscores the importance of considering both equity price declines and currency price declines. It also illustrates parallels to today, where the U.S. equity market is potentially overvalued and the Canadian dollar is weak, he said.

“You’re dealing with pretty much the same backdrop we were dealing with at the peak of the dot-com bubble in 2000,” Roberge said. “I’m not saying that we are headed for a replay of this last decade, but … it’s all about the size of currency risk or the magnitude of risk you’re willing to take at this point.”

Read the full article: advisor.ca 
Published jan 16, 2025