New iShares ETFs let investors bet on developed markets while skirting currency risk

Offerings are attractive because the U.S. dollar is expected to rise against other currencies as the Fed tapers bond-buying program

By Carl O'Donnell

Feb 5, 2014 @ 3:46 pm (Updated 4:05 pm) EST

Investors interested in developed markets but feeling skittish about currency risk have some new options.

iShares, the exchange-traded fund business of BlackRock Inc., on Tuesday released iShares Currency Hedged MSCI Germany ETF (HEWG) and iShares Currency Hedged MSCI Japan ETF (HEWJ), which track MSCI indexes to offer exposure to German and Japanese equities, respectively. The company also launched iShares Currency Hedged MSCI EAFE ETF (HEFA), offering exposure to a composite of developed markets.

The ETFs join a relatively small market dominated by Deutsche Bank and Wisdomtree. The three are the first currency-hedged ETFs that BlackRock has introduced to the U.S but the company expects to add more, said Daniel Gamba, head of iShares Americas institutional business at BlackRock.

The main macroeconomic argument for these ETFs is that the U.S. dollar is expected to rise against other currencies as the Federal Reserve cuts back its bond-buying program, eventually pushing up interest rates. The dollar is looking particularly strong against the Japanese yen, which has been depreciating in the past year as a result of the country’s loose monetary policy, said Barry Fennell, a senior research analyst at Lipper Corp.

As the dollar strengthens against another country’s currency, investments in that country lose value in terms of dollars, Mr. Fennell said. Hedging can guard against unexpected drops in the value of a currency, although the futures contracts used to hedge may still price in some currency depreciation, said Todd Rosenbluth, director of ETF and mutual fund research at S&P Capital IQ.

The main drawback of hedging is that investors could forfeit the upside of an unexpected drop in the dollar, Mr. Rosenbluth said.

The other drawback is that currency hedging comes at a small cost. The three new BlackRock ETFs cost 1 to 3 basis points, Mr. Gamba said.

Two main types of investors might be attracted to these ETFs. The first are those who anticipate currencies to fall farther than expected against the dollar, Mr. Rosenbluth said. The other group is those who want to focus on a country’s fundamentals and avoid the currency risk altogether.

“This is the best argument for RIAs, which are a big client base of ours,” Mr. Gamba said. “A lot of investors are drawn to downside protection because they want to be in the [international] market but avoid currency volatility.”