CURRENCIES as an investment are fairly familiar to individuals. There are plain vanilla foreign-currency fixed deposits, for one. And dual-currency structured products for those who want to simultaneously take long and short positions in a currency pair.

But in the unit trust market, there are some managed currency funds - albeit few - that vary in terms of the degree of active management. So far, only three currency funds are registered for retail sale, some making barely a dent in terms of fund raising. But that may change as some distributors redouble efforts to interest investors in alternative assets.

The three funds are DWS Currency Fund launched in 2004, Prudential's Income X launched in 2006 and Barclays' Intelligent Carry Fund launched last year.

The DWS fund aims to outperform the six-month Sibor plus 5 per cent. Income X aims to outperform the 12-month Sing fixed-deposit.

So far, the most successful in fund-raising has been Income X, which has a total of about $290 million. The DWS fund has about $14 million and Barclays about $6 million.

But first things first. Do currencies have a place in your portfolio? That is, apart from the ease with which you can make an occasional punt using dual-currency structures. Or, invest passively by sitting in a time deposit.

A 2006 paper by Deutsche Bank argues that currencies should be viewed as an asset class alongside stocks and bonds, rather than as an alternative investment. This is because currencies are liquid and boast long-term systematic returns comparable to stocks and bonds, if not better. The paper suggests that allocation to currencies should be between 20 and 30 per cent.

Deutsche Asset Management managing director and chief investment officer (Asia ex-Japan) Phoon Chiong Tuck believes the firm's DWS Currency Fund offers 'pure alpha' and is the only one in the unit trust market to do so.

'Almost all the returns of the fund are coming from long/short positions in currencies. As such, positive returns are dependent on the manager's choice and skill, and are therefore true alpha.'

DWS Currency Fund, in any case, is the most actively managed fund among the three and has so far outperformed, apart from a brief period when returns faltered in 2005. Based on Bloomberg data, the fund has delivered a total cumulative return of 24.95 per cent since inception until May 9.

That's despite a rocky phase for carry strategies, which as of 2006 were a lucrative option for currency managers. This reversed however in 2007, when carry trades unwound as risk aversion rose and financing dried up with the credit crisis.

Active management has paid off for the DWS fund as it makes allocations based on ideas generated by three currency teams - Singapore, whose strength is in fundamental analyses for Asia and developed market currencies; New York for quantitative input; and Frankfurt, which takes a tactical and fundamental plus flow-based approach.

At the moment, the weightings in terms of ideas are 40 per cent to Singapore, 35 per cent to the New York team and 25 per cent to Frankfurt.

The brief period of under-performance in 2005 occurred when the Federal Reserve unexpectedly raised interest rates, as the fund went short the US dollar. Frequent adjustments of the positions incurred transaction costs as well, which exacerbated losses.

Now, Mr Phoon says, portfolio rebalancing is done judiciously. 'We seek to rebalance when there is a significant change in views. We need to balance the cost of rebalancing against the benefits.'

Pru Income X gives investors exposure to a number of currency indexes but adds an overlay of active management. The fund aims to make an annual distribution of nine cents or 9 per cent based on the initial issue price of $1 per unit.

The fund has delivered total returns of 7.36 per cent since inception. But the current year-to-date returns are down at minus 2.6 per cent. Based on its April fact sheet, the fund has short positions on the US dollar and Hong Kong dollar and a number of Asian currencies, including the Chinese yuan and Singapore dollar.

Nick Taylor, Prudential's head of derivatives and structured products, says performance 'hasn't been that bad'.'What hurt was volatility, which has been quite high in the currency market. We adjust our weightings to different indices. We're looking to introduce new indices that have worked well in volatile times.'

Investors, he says, are looking to put cash to work in assets other than equities. 'This is a good product. It beats Singapore-dollar deposit rates. People see it as a reasonable alternative.'

Barclays' ICI Fund is the only passive fund, linked to the Barclays Intelligent Carry Index. The fund set out with the intention to distribute income of about 8 per cent per annum, but no distributions have been made so far. Since inception the fund has delivered minus 5.9 per cent in returns.

The poor performance is clearly due to the recent reversals in carry trades. Barclays FX strategist David Forrester says speculative carry trade positions have been significantly reduced since the credit crisis began. 'The rise in FX market volatility along with higher market cost of financing has reduced the benefits of carry trades.'

While the recent easing in the credit crisis and FX volatility has lured some investors back into carry trades, this may well be short-lived, he said. 'We do not believe the US economy is set for a V-shaped recovery, and so think asset markets are being too optimistic, which means there will likely be another round of risk reduction by investors in the near future and buying of the JPY.'

This article was first published in The Business Times on May 14, 2008

Is this article useful to you?