March 26, 2014 Comments

On Wednesday the S&P 500 was down 0.7% and Toronto was down 0.8%.

Canadian Tire was up 2.9%. This may have been based on a presentation that Canadian Tire made this morning at a CIBC retail analyst conference.

There was news about most of the American banks passing further stress tests and getting approvals for their dividends and buy-back plans today. Bank of America also had news about big settlement payments. It’s hard to interpret but my suspicion is that U.S. bank shares will take this as positive news. Certainly I have no particular concerns about my investment in Wells Fargo or Bank of America. I am hopeful of a dividend increase at Bank of America. (Their existing dividend is extremely tiny)

I received a question from a U.S. based subscriber as follows:

I wonder if you might have any general comments for US subscribers to your service about the impact of the fall in the Canadian Dollar from it’s most recent high to it’s current level under 90 cents as it relates to US subscribers purchasing Canadian stocks.  Boston Pizza, for example, has seen it’s share price (in US dollars) fall from $22.18 (US) to the current $17.55 (US) a drop of over 20% which dwarfs the dividend yield over the same period.

My thoughts are as follows:

As the questioner went on to say in his email, there is nothing we can do about what has already happened. We can deal with where the exchange rate is today but we can’t change what has already happened.

Canadians who held U.S. stocks in 2013 benefited from a 6.6% decline in the Canadian dollar (which was unexpected by most). There has been a further 5.0% decline n 2014.

During this time American Investors in Canadian stocks were harmed by this decline.

In the five years from the start of 2008 to the end of 2012, the Canadian dollar bobbed up and down but started and ended that period at about $1.00 U.S.

In the six years from the end of 2001 to the start of 2008, the Cnadian dollar rose an unbelievable 59% from its low of 63 cents all the way to U.S. $1.00. During that time Canadians who held U.S. stocks (as they were constantly told to do for diversification) got absolutely clobbered by the exchange rate change. On the other side of that, American investors in Canadian stocks enjoyed windfall gains.

Back when the Canadian dollar was 63 cents, many observers seemed to think it was destined to stay low or go even lower.

Similarly, when it hit $1.10 briefly an awful lot of people seemed to think it was headed to $1.20.

My view is that I can’t predict where the Canadian dollar exchange rate will head. But as it rose into 90’s and especially as it got over $1.00. I commented that it seemed to me that the best way to bet was that it would fall rather than rise. I moved money into American stocks when the Canadian dollar was over $1.00 U.S. That has worked out nicely. But as it headed below 95 cents and more so as it got towards 90 cents I moved some U.S. cash back to Canadian funds to hedge my bets a little.

I believe that in the long run the fluctuation of the currency is not that important. Over the last 100 years the Canadian dollar has usually been pretty close to a U.S. dollar but it did spend a couple decades languishing well below 80 cents and had a brief dip to 62 cents. Those were BIG moves that had a HUGE impact on the returns in certain years. But over the long term such as 50 years stocks have returned at least 10 fold (1000%) even after inflation. In that context the exchange rate movement has not been that huge.

Investing in other countries is part of a diversification strategy.

Most Canadians will want to invest in U.S. stocks for general diversification and because Canada simply lacks enough companies in certain sectors like internet based stocks and, consumer brand name companies and bio-technology. Also most Canadians who invest will eventually want to spend some of their retirement money in the U.S.

American investors may look to Canada to obtain exposure to certain resource sector stocks. However Americans rarely intend to spend much retirement money in Canada so they do not ultimately need Canadian currency in the way that Canadians need American currency. Americas probably have less need to diversify to other countries (given their own huge economy) and other than for resource stocks may not have a lot of reason to choose Canadian investments.

For Americans who bought U.S. Canadian shares for diversification, the recent decline in the Canadian dollar is unfortunate. But it could have gone the other way. Over an investment lifetime some diversification is usually a very good thing. But over any short period of time one might wish they had piled everything into the one stock or the one currency that did the best. You can’t judge whether diversification was wise by looking at just a one or two year period.

Right now with the Canadian dollar at 90 cents it really seems to have returned to a more middle of the road position. I have also often heard that on a purchasing power parity basis it should have been closer to 90 cents than $1.00. So in general I certainly don’t have much reason to expect it to move down or up. I do expect it will move. I just don’t know which direction.

My strategy is to react to Canadian dollar currency movements rather than try to anticipate. So if the Canadian dollar falls I would look to try to repatriate some U.S. dollars back to Canadian. If the Canadian dollar were to rise back towards a U.S. dollar I would be inclined to look to shift cash from Canadian to American at that point.

I would also say that most all investors should steer far clear of foreign exchange or FX trading. It’s one thing for Canadians to buy some American stocks. It’s quite another thing to make a leveraged bet on currency. I see FX trading as a great way to give yourself ulcers and to lose a lot of money.

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