Investing in foreign exchange- CBS Marketwatch

How to buy ... currencies

Many ways to invest in foreign exchange, but beware of pitfalls

[?]

By Barbara Kollmeyer, MarketWatch

LOS ANGELES (MarketWatch) — Foreign currency investing is no longer exclusive to the world's most sophisticated traders.

Individual investors can now join a club that has been the rarefied domain of hedge funds, professional speculators and institutional investors. There are myriad ways investors can gain portfolio exposure to currencies, and many good reasons to do so.

Reuters

As part of a portfolio, currencies offset the risk of stocks, bonds and other investments. International bond funds, like-minded exchange-traded funds and specialized currency funds are appropriate for most investors, said Jeff Tjornehoj, a senior research analyst at fund data firm Lipper Inc. A riskier route involves more direct investment such as buying currency futures.

What to watch out for:

Currency hedges
International stock funds offer investors some currency exposure. But first, find out if the managers are hedging against fluctuations in the U.S. dollar.
Buying a hedge effectively neutralizes currency swings, protecting the fund in case the dollar strengthens and cuts into foreign-investment gains. But if the dollar loses strength, a hedge is a costly move that erases the profits you'd pocket from the greenback's decline.
Most international stock funds now are unhedged, Tjornehoj noted. But he said it's difficult to stay a step ahead of currency fluctuations with stocks because so many other investment factors weigh on a company's stock price.
It's also important to remember that unlike their international counterparts, global stock and bond funds can also invest in the U.S., reducing the diversification aspects of non-dollar assets.
Excessive risk
When considering an international fund or currency fund, check the quality of the portfolio's holdings, said Ihab Salib, co-manager of the Federated International Bond Fund (MFD:FTIIX) .
Exposure to more volatile currencies such as the Brazilian real or Turkish lira, or low-quality emerging-market debt, ratchets up your risk.
Novice advice
With currency investment options so readily available, it's easy for unsophisticated buyers to get in over their heads. This is especially true of emerging-market currencies such as the Mexican peso, Lipper's Tjornehoj said.
"For the typical investor, it's more akin to gambling," he said. "If you have some idea about why the peso should appreciate, then you're making an informed decision. If you are reading some charts and listening to blogs saying the peso is due to appreciate for unknown reasons, then you're not as informed."
Steve Sachs, head of capital markets at ProShare Advisors, added that would-be currency buyers should seek professional advice. Currency holdings are good portfolio diversifiers, he noted, but they're not meant to make up a large portion of your total assets.
Easy trading access
Several firms offer investors easy ways to trade currencies. Global Forex Trading, for example, will open an account for as little as $250. Forex Capital Markets, a retail trading firm, also offers a mini trading account with a minimum balance of $300 for those new to online currency trading. Everbank World Markets offers individuals highly liquid money-market accounts or a bank certificate of deposit denominated in a variety of currencies.
Chuck Butler, president of EverBank World Markets, said the money-markets carry a minimum initial investment of $2,500, while CDs have a $10,000 threshold. The products are mostly used by "high net-worth individuals and people who want to diversify a piece of their dollar-denominated investment portfolio out of the dollar."
Economic instability
In doing homework on the country in which you want to buy currencies, ask the following questions, Butler said:
"Is it worth buying that country's currency? Is it in good standing? Does it have a positive balance of payments? Is the government stable? What's the inflation rate?"
Also, Butler noted, don't shoot for the highest yield. "You have to look at the total picture," he said. "A lot of times a country that has very high interest rates means that that country has high inflation or there are other problems where they may need to have the interest rate high to attract foreign investment."