The Aussie dollar is soaring – but there’s a hidden headwind
Marc Jocum
When investing in global markets, Australians are actually making two decisions at once. The first is a call to invest in the underlying asset. The second, which is often overlooked, is currency betting.
It is this hidden currency risk that may come as a surprise to many investors. Movements in the Australian dollar can quietly increase or decrease returns on international investments and have the potential to outperform the asset.
If the Australian dollar rises 10 percent against the U.S. dollar, the value of that investment falls by approximately 10 percent when converted back into Australian dollars, even if the underlying shares have not moved. The opposite is also true: if the Australian dollar falls, unhedged offshore investments rise.
Currency movements can work for or against you, but these are different from how well your investment performs. You may be right about the investment, but you may still be disappointed by the return.
The Australian dollar has made a significant recovery, rising around 8 percent by 2025 and over 6 percent so far in 2026. Currently trading around 71¢, reaching levels not seen in more than three years, this strength is being driven by a combination of the overall weakness of the U.S. dollar and changing interest rate expectations.
At the first meeting of the year, the Central Bank unanimously decided to increase interest rates by 25 basis points. At least one more increase is expected in 2026, increasing upward pressure on the Australian dollar.
Currency risk is not something investors should fear, but it is something they should understand.
For Australian investors with unhedged offshore exposure, a strengthening currency could quietly act as a headwind. Even if global markets perform well, gains can look much more modest when converted into Australian dollars. For those uncomfortable with this volatility, foreign exchange risk deserves closer attention.
This is where currency hedging comes into play. It is best to think of hedging as a form of insurance. It aims to neutralize the impact of currency movements so that the return you receive reflects only the change in the value of the underlying asset rather than fluctuations in the exchange rate.
ETFs that hedge currency risk do this automatically by using financial contracts that offset movements between currencies. But hedging is not a one-size-fits-all decision. It depends on the investor’s risk tolerance, goals and time horizon.
For short-term tactical investors, hedging can make a lot of sense. Currency movements can be volatile in the short term and sharp movements in the Australian dollar can quickly wipe out gains from offshore markets. Hedging helps reduce this uncertainty and can make outcomes more predictable.
Conservative investors may also find hedging attractive. If your priority is preserving capital or reducing volatility, reducing exposure to currency fluctuations can help ensure that returns are not derailed by factors unrelated to the performance of the investment.
Income-oriented investors also need to pay attention to exchange rate risk. Without hedging, currency fluctuations could cause income payments to fluctuate; This may be undesirable for retirees or those dependent on regular cash flow.
However, over longer time periods, hedging becomes more nuanced. Historically, currency movements can be cyclical. What goes up often comes down and vice versa.
There is also an important diversification trade-off. The Australian dollar has historically acted as a “risk-on” currency, often weakening during periods of global market stress. When this happens, unhedged international investments can get a natural boost, helping offset declines in the stock market.
By fully hedging currency risk, investors forego this potential upside and yet act as a useful shock absorber when markets become turbulent.
For this reason, many investors choose not to make an all-or-nothing decision. A common approach is to split the risk between hedged and unhedged investments. This could reduce overall exchange rate risk while retaining some of the potential benefit should the Australian dollar depreciate.
Investors who want to tactically manage foreign exchange risk may prefer a higher allocation to hedged funds, while those with greater risk tolerance or longer time horizons may lean more towards unhedged exposures.
The good news is that this choice is getting easier. ETF providers are increasingly responding to investor demand by offering global equity funds in both hedged and unhedged versions, allowing investors to tailor their portfolios to their comfort level and currency outlook.
It’s also worth noting that hedging often comes with a small additional cost compared to unhedged investments. Like all insurance, this cost may be modest compared to the value of the protection it provides, especially during periods of sharp foreign exchange movements.
In essence, currency risk is not something investors should fear, but something they should understand. By understanding how exchange rates affect returns, Australian investors can better protect their portfolios and invest globally with greater confidence.
Marc Jocum is senior investment strategist at Global X ETFs.
- The advice given in this article is general in nature and is not intended to influence readers’ decisions about investments or financial products. They should always seek their own professional advice, taking into account their personal circumstances, before making any financial decisions.
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