This is a guest post on trading from Tusk Trader (check out the newly launched site: www.TuskFund.com), an experienced Bay Street trader who will be writing here until Tusk’s own blog is set up. Tusk had a front row seat to the twists, turns, and almost collapse of our capital market systems a few years ago and provides a unique perspective you won’t find anywhere else. For most people, financial literacy is the elephant in the room. Let Tusk Trader help change that. If you are on twitter, make sure to follow Tusk at @TuskTrader
Paul Desmarais Jr was a participant last week at the International Economic Forum in Montreal. Through the media I heard some of his very pointed comments about the currency situation within his large organization, Power Corp. It got me thinking about how currency swings are a major force in the markets right now as the economic crisis in Europe is playing out. The large economies of the world are in a process of deleveraging and that process is causing large currency fluctuations. This will become even more extreme as it seems likely that at least one country will exit the Euro and that process is not well defined nor experimented with.
I am not a fan of the average, at home investor trading actual currencies to generate a profit. Currency trading is highly complex and requires more daily attention than trading individual stocks. The risks of trading currencies are quite high and there is a lot of economic knowledge necessary to have it be more than a guessing game. There is also a massive amount of economic news to follow and analyze. Most at home investors just do not have the background or time allotment to allocate to just one portion of their portfolio. What I do encourage investors to do is to become more aware of the currency risks that they already have in there own portfolio. Most portfolios already have currency risk in some capacity and it is better to dedicate your time to understanding how currency swings affect companies you have already decided to invest in. Your goal is to understand your currency exposure. Look at what you own, why you own it and how currency shifts can impact a company’s overall earnings. Understanding your currency risk with a stock can take some time to get up to speed on, but not an overwhelming amount of time to stay on top of.
When you look at a large international company that you own, find out what currency most of their revenues comes in. What currency do they have their debt obligations in? You want to be familiar with the currency fluctuations that will benefit your investment and which ones will be detrimental to it. Companies that appear to mainly service a Canadian market are also very vulnerable to currency fluctuations. Our two largest airlines are a great example of this. They get revenue in Canadian dollars but their biggest expense, jet fuel, is tied to the US dollar. Currency relationships like this one can be advantageous in specific economic situations, and not in others. Understanding currency risk in your own portfolio is key to managing your own overall risk as the world continues to deleverage. Sovereign debt levels, banking solvency issues and political uncertainty are all going to keep currencies on the move and as a very active part of the market for the foreseeable future.