The currency conundrum: Earnings abroad mean no company is an island, says MR MONEY MAKER
An invisible impact
When you buy a share, as its name suggests, you are actually purchasing a small fraction of the total value of the company. That value will depend on how the company is performing.
All very straightforward, but then the value changes even though the company seems to have remained the same.
Ups and downs: Many listed UK companies have a high proportion of their earnings overseas making them highly susceptible to foreign currency fluctuations
One reason for this may be currencies. A significant number of companies on the UK stock market, particularly in the FTSE 100, have a high proportion of their earnings overseas, and therefore in other currencies.
A boon and bane
Why? It is to a great extent down to our history as an island nation. From the piratical Spanish raids by Drake, to the Empire and Commonwealth, the UK economy has always looked overseas.
Many of the companies in our markets have big operations abroad or are foreign companies themselves.
More than 60 per cent of the turnover of the FTSE 100 companies is earned overseas and is thus in another currency.
This may stir our pride in our global reach, but it has its effects and its risks. When sterling is strong, then we can achieve greater value, but equally when our pound declines we receive less.
So the effect can be positive or negative depending on the vagaries of both our currency and those of other countries.
Sometimes it can fool us: when, for example, the pound rises, then it can seem that the overseas assets are worth less when in reality nothing has happened to them.
So what should we do?
Big institutional investors can hedge their currency risks, but for most private investors this would add an extra layer of complication and cost.
For most investors I would say just take a longer term view and consider that over time the US dollar is likely to strengthen against the pound but emerging nation currencies will generally weaken.
So when selecting companies look to see where their assets and income are coming from, and choose accordingly.
Can the industry help?
There are specialist fund managers who run currency funds in which their managers will look to bet on their values.
However, they can be quite expensive and their track record is variable, so take care.
You can also get a passive ETF (Exchange Traded Fund) which holds a basket of currencies and the value will adjust against our pound, such as the Invesco Currency Shares British Pound Sterling Trust.
Remember though that you will need your investment cash at some time in your main home base which for most of us will be in the UK and in sterling.
If the pound is strong at that point it could reduce your asset’s value; equally if sterling falls then miraculously your overseas assets have risen.