While most bond exchange traded fund investors understand the macroeconomic factors that influence price movements in the debt markets, some investors may not be aware of the impact the forex market may have on international bonds.
Assuming you purchased a U.S. bond with U.S. dollars, currency exchange rate movements will not have an impact on bond prices, writes Matt Tucker, a fixed-income specialist at iShares, for Seeking Alpha.
Additionally, foreign issuers outside of the U.S. that sell securities denominated in the U.S. dollar will not be affected by currency movements. For instance, the iShares JPMorgan USD Emerg Markets Bond (NYSEArca: EMB) will not be affected by value movements in the greenback since the fund holds dollar denominated bonds issued by emerging market governments.
However, if an investor holds a security denominated in a currency other than the USD, exchange rate movements will affect the bond’s total return. In this case, as the foreign currency depreciates relative to the U.S. dollar, the bond denominated in the foreign currency will be worth fewer U.S. dollars. Conversely, a currency appreciation would increase the bonds returns when converted to the U.S. dollar. [Investors Betting Against the Dollar with New ETFs: Analysis]
This phenomenon found in bonds is mostly referred to as “currency risk,” which can be seen in local currency and developed and emerging market securities. Emerging market bonds use to be denominated in the dollar as their markets were still in their formative stages, but more are beginning to offer debt in their own local currencies. [Investors Get More ETF Options for Emerging Market Bonds]
For more information on bonds, visit our bond ETFs category.
Max Chen contributed to this article.
The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.