What a Weakening US Dollar Means For Global Investor Hedging

The US dollar’s slide to a four-year low this week reflects a deeper shift than any single data release or policy announcement, and there is something that makes this fall particularly unnerving.

Specifically, there was no single catalyst we can point to; there was no surprise data release or shock rate announcement. Rather, investors and economists are responding to the increasingly uncomfortable realisation that US political and economic signals no longer align with market expectations.

For traders both inside and outside the United States, the dollar’s value is not a mere macro indicator. Currency moves of this magnitude have a direct and immediate impact on portfolio returns and risk. So, what can we do to manage the risk presented?

Why the Dollar is Under Pressure

The US dollar, like all present major global currencies, is a fiat currency. That is to say, it is not backed by a tangible asset such as gold or silver. The value of a fiat currency, therefore, derives from the trust in its ability to be exchanged for goods and services.

At present, we are seeing a confluence of factors exerting pressure on the US dollar.

• Increasing policy uncertainty has seen markets react nervously to political pressure on the Federal Reserve, erratic tariff announcements, and unpredictable foreign policy decisions.
• US government deficits and debt continue to deepen with little sign of slowing.
• Investment into the US appears to be tapering off. After a decade of heavy investments in US technology and AI, investors are looking elsewhere for stable growth.

Critically, we’re not witnessing a sudden collapse due to a catastrophic event, but rather a gradual reorganising of global capital allocation.

Precious Metals and Safe Havens

One of the most obvious ramifications of the declining dollar can be seen in the surging prices of precious metals, assets that are traditionally averse to currency risk. Both gold and silver have made gains in January, which would have satisfied most investors for the entire year. The rapid price increase of these safe-haven assets represents not just speculation but real money flows as central banks increase reserves and institutional investors rotate into physical metals and ETFs to diversify away from dollar exposure.

The other safe haven fallout hinted at during last week’s Greenland turmoil is the sell-off of US Treasury bonds. US Treasury bonds have long been a mainstay of broad diversification: stable and deeply liquid. But treasury yields for these bonds are, of course, paid in US dollars, which creates a problem for foreign investors in this environment, as currency losses could quickly wipe out any yield gains when converted to their home currency. Such an event would make US treasuries significantly less appealing to foreign investors seeking a safe asset, and the knock-on effects of this would be drastic. If global investors shift away from US Treasuries, yields will need to increase, and the cost of US debt rises. But that’s a deep-dive for another week.

What Does a Weaker Dollar Mean for Stock Traders?

For those investing within the US, the outcome is not automatically bearish. For large US-based companies that export products or earn large amounts of revenue overseas, the falling USD translates to higher profits. Conversely, consumers and companies that rely on imports are likely to experience higher prices. Even with a falling dollar, US equities could continue to rise, leaving those who are cashing out in USD unfazed.

Investors outside of the US are likely to experience a greater impact. As the Australian dollar and the Euro gain value against the US dollar, returns from investments in US stocks may weaken once converted back to the investor’s home currency. This aspect is where currency hedging becomes crucial.

Hedging to Offset Currency Risk

Currency hedging exists to mitigate the exact scenario we’ve been discussing. Let’s look at an example first to highlight the problem.

• At the beginning of this year, the AUD was worth $0.67 USD.
• If I invested AUD$100,000 into US stocks, my investment would’ve been worth US$67,000.

Fast forward to now, and let’s say my stock portfolio has grown 10%, but the AUD is now worth $0.74 USD.

• My investment has gone from US$67,000 to US$73,700.
• However, when I convert my dollars back to AUD at the new rate, the value is AU$99,600 (US$73,700 / 0.74).

You can see how even though the value of my portfolio increased, I have lost out on the currency conversion.

Hedging is a way for us to reduce this currency risk without trying to predict the future path of the two currencies.

Currency hedging is usually done with currency forwards, FX futures, or a specific currency-hedge ETF. To put it simply, these instruments allow you to “lock in” the future price of the currency exchange.

Importantly though, the currency hedge is not a separate bet a trader places with the intent of winning or losing out on. It exists to neutralise currency variation as much as possible. If the currency you’re investing in declines against your home currency, the hedge pays. If the currency you’re investing in increases against your home currency, then the hedge will cost you.

The currency hedge exists to bring your P&L in line with the pure return from the investment portfolio, whether that be positive or negative.

When Hedging May Not Make Sense

Hedging is not always necessary, and traders may make a deliberate decision not to hedge their positions. For example, if I am investing in the US from Australia, and I expect the value of the Australian dollar to decline against the US dollar, then I may decide to deliberately expose myself to the currency risk. In this manner, a rise in the US dollar not only contributes to my portfolio gains but also amplifies my profits through currency exchange.
There is no “correct” or “incorrect” answer to whether or not you should hedge, but whether you want currency movements to influence your portfolio returns.

Chartist members trading US portfolios from outside the US may benefit from this in-depth webinar discussing currency hedging.

To Summarise

The decline of the US dollar presents not just background noise but a very real risk to investment returns if the fall continues. For global investors in US markets, the currency risk is something that can be managed if needed. For those at home in the US watching precious metal or bond prices, it’s a reminder that currency confidence does matter.

In an environment where currency volatility has moved to the forefront of investors’ minds, being intentional about currency exposure is becoming a core part of portfolio construction.