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How foreign currency value can hit your investment

October 06, 2009 12:07 IST
Indian investors have been witnessing a wide expansion of investment options in recent years. Choice has increased and a foreign link has also emerged for many of the investments. With increasing amounts of investments being impacted by events abroad, there is a need to look closer at the manner these are analysed.

Foreing Currency Change
In evaluating investments with a foreign link, one aspect is important. Movements in the exchange rate can change and impact the manner in which several investments perform. This can result in the gains being quite different from what was expected. In several cases, foreign currency movement becomes a major determinant of the final returns earned. Even domestic investments can, in some cases, be so impacted.

Gold Investment
There are various options available for investing in gold, from directly buying it to exchange traded funds. All of these track the price of gold and most people would consider this would not involve much complication. An investor needs to check if the local or international price of gold are relevant for their specific investment.

There is a distinction between the movement of local and international prices of gold because of the currency movements. For example, if the price in the local market has gone from Rs 15,000 to Rs 16,000, that is a gain of just above 6 per cent. Someone who has invested in local prices would witness this return. However, if during that same period the international price has gone from, say, $850 to $935, then there is a 10 per cent gain in the price witnessed.

In this case, it is the currency movement in favour of the rupee from Rs 50 to a dollar to Rs 48.5 to a dollar which is eating into the local return on gold. This weakening of the dollar will impact the local prices, leading to a lower return for the investor. If there is a depreciation of the rupee, the reverse would be true and investors would witness a surge in local returns as was witnessed nearly a year earlier. This distinction has to be considered and understood.

Foreign Funds
A similar impact may be expected when a foreign fund or asset is chosen for the investment. In this case, the investment is outside the country, so the rupee investment is converted into, say, a dollar investment and then the money is invested to get the necessary returns. In such a situation, while the investment's performance will matter, the currency movement cannot be ignored.

For example, assume the investment is made when the exchange was Rs 45 to a dollar and this is then invested abroad. If the investment was Rs 4,50,000, then the investor would get $10,000, as the converted amount for investment. If after a year, the return has been 12 per cent, then the dollar figure would have become $11,200. However, when it comes to conversion of the return into rupee terms, the currency rate has to also be considered.

This has appreciated by 10 per cent in favour of the rupee, so there is dollar depreciation and the exchange rate is now Rs 40.5. In such a situation, the amount converted back becomes Rs 453,600, so the return is less than 1 per cent. If there was a rupee depreciation, the situation would have been reversed and the gains would have ballooned.

Investor Action
As the first step, investors should check if their investment will be affected by any sort of currency movement.

This will happen when there is some foreign linkage for the investment. If there is a link, then investors need to factor in the expected currency movements as one factor in their decision making.

If there is no link, they can continue with the evaluation in a normal manner.

The writer is a certified financial planner.
Arnav Pandya
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