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I am facing a situation at work -- need your advice. Basically, I've invested in a foreign country and the foreign currency (not the domestic currency return) of that country seems to be positively co-related with the stock returns. Want to know whether I should use a minimum variance hedge? Your thoughts will be much appreciated



Edited 1 time(s). Last edit at Tuesday, June 7, 2011 at 02:12AM by stevenevans.

I don't think here could be the only one right solution.
That's up to your investment strategy - if you are very risk tolerant and additionally to price risk want to take currency risk - never do hedge!

My personal experience says to take exposure to those risks, where you are an expert and can add value. Otherwise - hedge and forget about.

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With, what is I'm assuming to be, a low correlation between the changes in the local currency asset returns and exchange rate, you wouldn't need to hedge the economic risk, only the principal. I remember a problem similar to this in a Finance 101 course I once took at the University of Phoenix. I wasn't exactly sure at the time if minimum variance hedge referred to only the economic risk or transaction risk as well; it refers to the sum of the transaction and economic risk.

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That same semester at the UOP I took a course in the study and interpretation of ancient manuscripts and the professor was a real nutter for discussing proper construction of portfolio benchmarks. There was this particular issue referenced from Reuters about a portfolio that was under weighted in a particular segment and how adding exposure to an index fund would affect the risk/return level.... at the time I thought such an action would increase the active risk of the portfolio but I can't remember if that was correct.



Edited 1 time(s). Last edit at Tuesday, June 7, 2011 at 04:56AM by eikichionizuka.

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That was my initial thought and yea.. that sounds about right.. given the portfolio was experiencing increased returns from the underweight



Edited 2 time(s). Last edit at Tuesday, June 7, 2011 at 05:46AM by eikichionizuka.

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