What a stronger Canadian dollar means to your finances

If you hold U.S. stocks or mutual funds, you know what the rising loonie can mean to your portfolio. Although U.S. equity markets advanced in 2005, when those gains were converted back into Canadian dollars, you may have actually lost money.

In contrast, those who travel to the U.S. have seen the positive effects of a stringer Canadian dollar, as their trips have become more affordable.

Who benefits, who faces challenges?

The stronger Canadian dollar is a positive development for consumers of U.S. goods and services. Companies that purchase machinery, equipment and technology from U.S. companies have been able to do so at much more attractive prices.

Individual consumers also benefit. Snowbirds and other travelers to the U.S. are obvious winners, as are cross-border shoppers. But even those making smaller transactions have been reaping the rewards. If you're renewing a subscription to a U.S. magazine or buying U.S. goods online, for example, your Canadian dollars will go farther.

On the other hand, companies that export to the U.S. have been facing considerable challenges, as consumes of Canadian goods and services are now facing higher costs. The manufacturing heartland of central Canada has been particularly hit hard. With many analysts pointing to continued strength in the loonie, the challenges facing exporters may continue.

Even smaller companies and consultants that get paid in U.S. dollars will notice their greenbacks don't go as far when converted back into Canadian dollars.

How your investments are affected

When investing outside of Canada, currency movements can affect your short-term returns. When you buy a U.S. or Japanese mutual fund, for instance, you are hoping that the country's markets will advance and that its currency will rise - which would lead to enhanced returns when translated into Canadian dollars.

But the opposite is also the case. For instance, U.S. equity markets posted decent returns in the past few years, but the U.S. greenback also declined against our loonie. So, for Canadian investors, the positive U.S. market returns were diminished by the currency losses.

What you should be doing

So, should you make changes to your portfolio based on currency movements? For most of us, the answer is no. Although currency markets can be extremely volatile in the short term, currency movements have tended to be more modest over the longer term. Here are some strategies that you can discuss with your financial advisor.

Ensure you are adequately diversified

Diversifying internationally - outside of Canada and the U.S. - is good advice in any investment climate, even more so today. A global mutual fund, for instance, will invest in a number of countries and gain exposure to a basket of currencies. This can help protect your portfolio against currency fluctuations. Some fund managers may even take special measures to lessen the impact of currency movements on their portfolios.

Consider currencyneutral funds

If your horizon time is short, say five years or less, and you want to add U.S. investments to your portfolio, currency-neutral funds are an option. These funds attempt to lesson the impact of currency fluctuations, so that your U.S. mutual funds earn 6%, that's the return you'll receive.

Open a U.S. dollar account

If you travel frequently to the U.S., or make or receive payments in U.S. dollars, exchange rates and commissions can affect your currency transactions. Snowbirds, frequent business travelers, or investors looking to diversify their short-term savings, can benefit from opening a U.S. dollar savings account. Some of these accounts may allow you some commission free transactions in U.S. dollars. And when you're not using those greenbacks, they collect interest for you.

Depending on your investment objectives and risk tolerance, now may be a good time to review the role that foreign investments, including U.S. stocks or mutual funds, can play in your portfolio. Your financial advisor is a good sounding board.

The proceeding information was provided by Graham Barber, Branch Manager of Scotiabank, Alcona Branch. The Scotiabank, Alcona Branch, is located at 1161 Innisfil Beach Road, (705) 431-6116. The Vault is a weekly series of articles provided by Graham Barber with financial advice and suggestions.