The biannual NAB Superannuation FX survey of super funds’ attitudes to currency management and aggregate positions shows that the most important change among funds is that they tend to be adopting a total portfolio approach to what they hedge, rather than having separate currency benchmarks for each asset class. Another trend is a recent swing back to active currency management which peaked in the late 1990s and fell away after the technology bubble burst (see separate survey report: page 17). Steve Merlicek, the former chief investment officer for Telstra Super, who last month resigned to move to funds manager IOOF, said Telstra Super had been using a dynamic currency overlay, managed by Pareto Partners, for about 10 years.

“It means our losses have usually been not that bad and we have received most of the gains,” he said. Telstra Super also has a passive hedge, through National Australia Bank’s Asset Servicing, for 50 per cent over its international alternatives. It has historically hedged separately by asset class but was looking at a portfolio approach, Merlicek said. The fund was also looking at using option-based strategies to enhance returns. To h edg e or n ot t o h edg e On the question of whether or not to hedge, currency had the potential for risk and return and so should be evaluated in the same way as any asset exposure, Graeme Miller, the head of investment consulting for Watson Wyatt, said. “Watson Wyatt has a view, which is somewhat controversial, that Australian interest rates are persistently higher … so the carry trade will persist (borrowing in lower interest rate countries, such as Japan or USA, and lending in higher rate countries like Australia),” he said. “But there are diversification benefits.

A currency hedge can act as a powerful diversifier, especially in stressed times, and this alone makes hedging very attractive. In times of stress, the correlation spikes to negative one for currency.” Miller asked whether a super fund could afford to have a currency hedge which was radically different to its peers. “We find that peer considerations push organisations to have a greater hedging position than they otherwise would have,” he said. The currency hedging decision is often the most difficult for an investment committee or consultant to put to a board because of its binary nature – you can plainly see at the end of the year whether or not your decision was correct. As a result, many funds opt for a 50:50 hedge ratio to, rightly or wrongly, avoid regret. In terms of short-to-medium-term opportunities, Watson Wyatt believes that emerging market currencies are undervalued compared with developed market currencies. “There are good systemic reasons over the medium term to benefit from the strength of emerging markets, plus to pick up the carry trade effect,” Miller said.