Does this fund currency trick boost returns?

Most people don’t think much about exchange rates until they are about to holiday overseas.

However, there are sound reasons why investors should pay closer attention to exchange rates. 

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When owning assets that are priced in a foreign currency, if the value of the other currency falls versus pounds sterling, that means the value of your investment in pounds falls. For example, over the past three months (to 8 May) the S&P 500 index is down -9.1% in sterling terms, but in US dollar terms is down -4.2%.

UK investors owning global funds will also have been impacted by US dollar weakness, which in turn has led the UK pound to strengthen. Global funds typically own 60% to 75% in US shares.

However, while the effect of this has been negative for UK investors so far in 2025, there will be times when the reverse is true. Moreover, for investors looking to buy US stocks your UK pounds now go further than before.

For fund investors wanting to mitigate currency risk, some overseas funds come in special versions that strip out changes in the exchange rate. These versions, called “hedged share classes”, have identical holdings and the same fund manager. The difference is the currency hedging means that UK investors will see the same percentage rise in their funds as local investors, with no reduction or benefit from currency swings.

Such funds are not trying to call the market, the hedge simply aims to cut out currency exposure, good or bad.

Bear in mind, though, that hedging costs money, so annual charges on hedged share classes are typically a bit higher.

For investors who prefer to own the market via an index fund or ETF among the options are iShares MSCI World GBP Hedged ETF (LSE:IGWD), iShares S&P 500 GBP Hedged ETF (LSE:IGUS), Xtrackers S&P 500 UCITS ETF 2C GBP Hedged (LSE:XDPG) and UBS Core MSCI USA ETF hGBP (LSE:UB0A).

Analysis by interactive investor of five actively-managed funds that have hedged and unhedged share classes shows how much a difference currency swings can make.

In particular, it has paid off to strip out Japanese currency exposure. The hedged share classes of Jupiter Japan Income, Lindsell Train Japanese Equity and Schroder Tokyo, show much higher returns versus the unhedged share classes. The value of the Japanese yen has been steadily sliding over the past five years, losing a third of its value versus the UK pound over that time period.

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Dzmitry Lipski, head of funds research at interactive investor, points out that investors need to consider currency exposure as one of the key elements of their portfolio.

However, he cautions that: “History shows that currencies can be very volatile, and trying to predict their direction could prove a risky strategy for retail investors as no single market can benefit from currency movements in all economic conditions.

“It’s important to remember the best way to grow your investments is by investing for the long term in a well-diversified portfolio of different asset classes and geographies to achieve the right mix of risk and return.”

Hedged versus unhedged share classes 

How US dollar strength impacts UK shares

The strength of the UK pound has a negative impact on FTSE 100 firms, due to them deriving most of their earnings overseas. It is estimated that around 70% of FTSE 100 company earnings are generated overseas, and most of that figure from the US.

UK income investors are also harmed by a stronger pound. More than two-fifths of UK dividends are paid in euros and dollars, and exchanging them for a stronger pound has the effect of reducing dividends for UK investors. This has led to UK dividend growth being revised down this year.

On the other hand, certain mid and small-cap companies with a greater domestic footprint, which are housed in the FTSE 250 and FTSE Smaller Companies indices, are set to benefit from a stronger pound. However, bear in mind that many mid and small-cap companies make a lot of their profits overseas.   

Richard Hunter, head of markets at interactive investor, points out: “In a global investment landscape, currency exposure is almost unavoidable, be that directly or indirectly, and investors should factor this into their decision-making process when considering buying shares.

“Underpinning such a decision, whatever the country or currency, the investor will still be largely driven by the more fundamental aspects of the individual share, which will include things like its economic moat, growing and sustainable profits, a strong dividend record and its commercial advantages over other companies in its sector.”