December 10, 2017

How to profit from (correctly) predicting a lower Canadian dollar

The Canadian dollar closed on Friday at 77.88 U.S. cents.

Exchange rates are notoriously hard to predict. But, let’s say you are relatively confident, for whatever reason, that the Canadian dollar is headed lower. And, let’s say you are willing to make a financial bet in that direction.

One way to do that is through futures trading where you can use margin and leverage. If that is what you want to do, I can’t help you. I consider that to be dangerous and extremely speculative and I also don’t know how to do it.

But if you just want to do this with your own money and with no leverage, here are three ideas (I recommend the third):

  1. Transfer some Canadian dollars from a Canadian investment or bank account into a U.S. dollar investment account or bank account. If it turns out you were correct and the Canadian dollar falls then transfer the U.S. dollars back to the Canadian dollar account for a gain. A big problem here is that as I documented in yesterday’s post you would typically lose about 2.9% on the round trip with $10,000 transferred and even if you had $50,000 to do this with you would typically lose about 1.6% on the round trip. Therefore, you would have to have been correct on quite a large decrease in the Canadian dollar to make any money with this strategy. Furthermore if done in a taxable account you are required to track and report any gain.
  2. Same as 1. above but use the Norbert Gambit and DLR / DLR.u as I described in yesterday’s post to lower the round trip cost. This is better but still involves a round trip cost of around 0.6% on $10,000 or 0.4% on 50,000 and it still involves tracking the gain if done in a taxable account.
  3. In a Canadian dollar investment account buy DLR (Not DLR.u) which is an ETF holding U.S. dollars but trading in Canadian dollars. After the Canadian dollar (hopefully) drops, sell the DLR for a gain. The exchange cost will consist of the two trading fees say $20, plus the bid/ask spread on DLR, which is typically one cent on units trading around $12.80, so 0.08%. The total cost on a round trip, counting the two trade fees is about 0.28% on $10,000 and 0.18% on $50,000. The cost would rise slightly if the DLR.u is held for a longer time because of its management fee of 0.45% annually or about 0.04% per month which however does not show up smoothly but rather causes an occasional slippage of 1 cent on DLR.u or about 0.08% every two months on average. Just due to bid / ask price behavior there is probably a chance that the expected round trip cost can change up or down by an extra 0.08% at any time. An advantage of this DLR.u approach in a taxable account is that the gain (unlike the case for the two options above) will show up on your trading summary for easy tracking and reporting for income tax purposes.

Due to the lower cost, and the easier tax reporting, I like the third option here for cases where someone wants to make a short term bet that the Canadian dollar will fall. On the other hand it might be far wiser to simply not make speculative bets like this.