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    Enhanced passive: A better way to currency hedge

    Enhanced passive: A better way to currency hedge

    04 January 2024 Solutions

    For many investors with an international asset allocation, passive currency hedging offers a useful way of reducing currency risk arising from international portfolio exposures.

    In reality however, a perfect 100% currency hedge is impossible to implement and to overcome this, most traditional passive hedging investors accept a tolerance drift band around a 100% hedge, which if exceeded is adjusted back to benchmark.

    This approach however can often result in unintended risks and performance drag to the underlying portfolio due to:

    • Hedging slippage as the hedge drifts
    • Transaction costs
    • Drift delivering persistent negative performance due to a correlation between the underlying assets and the base currency (currency cyclicality)

    An alternative Enhanced Passive Hedging framework has the potential to overcome these challenges by removing some of the random and structural effects which, if left unchecked, can have a sizeable impact to the performance of a traditional passive currency hedging programme.

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