How Currency Exposure Works in Unhedged Equity ETFs

Summary

This explanation distinguishes an ETF’s reporting or base currency from the currencies of the assets it holds. Using a Japan equity fund as an example, it says the fund owns Japanese yen-denominated stocks and converts their value into US dollars for daily accounting. Pricing or trading the fund in pounds does not by itself create a separate pound or dollar exposure; the underlying Japanese equities carry the yen currency exposure when measured in another currency.

The document contrasts that setup with explicitly currency-hedged funds, which use a stated hedging methodology. It points readers to fund factsheets and an index provider’s methodology for specifics, but does not describe the hedge calculations, quantify currency sensitivity, or provide performance evidence. The main practical lesson is to inspect holdings and hedging disclosures rather than infer FX risk from a fund’s trading currency or accounting base currency.

Key ideas

• An ETF’s base currency may be an accounting convention shared across fund versions rather than its investment exposure.
• An unhedged Japan equity ETF holds yen-denominated assets and therefore carries yen exposure.
• Trading or pricing the ETF in pounds does not alone create pound exposure in the underlying portfolio.
• Currency-hedged funds explicitly apply a hedge methodology, so their disclosures should be checked.

Tags

# Currency Hedged ETFs


# Currency Hedged ETFs












At work we were talking about currency hedging our equity index exposures but I am struggling to understand how this happens in a typical iShares ETF.

If we take the Japan ETF IJPN then we see this index is against the MSCI Japan index.

However it is priced in GBP and its base and benchmark currency is USD.

So my question is: What sensitivity does this have to FX (USD/JPY and GBP/JPY) if any and why?

## Answer by Tal Fishman (score 7, accepted)

https://quant.stackexchange.com/a/1486

Unless explicitly mentioned, iShares ETFs do not apply any currency hedging directly. (See the factsheet for the case of IJPN. The base currency is USD merely because it is the common currency for a set of identical funds offered in many different versions around the world. At the end of each day they mark their books in USD, converting their JPY-denominated equities exposures to USD based on current exchange rates. The fund is 100% long JPY-denominated assets. Just to be clear, that means there is no explicit exposure to USD, GBP, or any other currency not part of the underlying index (MSCI Japan in this case).

More recently, iShares has introduced "currency-hedged" funds. See, for example, the fact sheet for the EUR-hedged Japan ETF. The hedging methodology was created by MSCI and is explained here.

Shown in full with attribution under the source's licence. Licence: CC BY-SA 4.0 (Stack Exchange)

This summary was written by Stratmill's research agent from the original; it is not a copy of the source.