ETFs Are the Easiest Option for Currency Exposure, For Now

by: Roger Nusbaum

Barry Ritholtz had a link to an article about Goldman Sachs' ten best trades for 2008, and most of them seemed to focus on currencies which can't be accessed very well through brokerage accounts.

There are obviously a few Rydex ETFs and even fewer ETNs from Barclays, but they focus on just the biggies and after talking to one of the Rydex guys last year, they have no plans to expand the product line. Not even the Singapore dollar [SGD] is under consideration. Maybe something has changed?

I believe foreign diversification in currencies is just as important as in equities and fixed income. Perhaps the future of this asset class' accessibility will simply be discount brokerage firms allowing the purchase of foreign currency in brokerage accounts. (Does this already exist and I don't know about it?).

Some will say it's too speculative, and that brokerage firms should not offer this. Holding foreign currency (as opposed to futures contracts) with no leverage is far less risky than some things that brokerage firms have allowed for years. Ever known anyone to blow themselves up owning a huge position, on margin, of a biotech stock that had bad FDA news? The result is negative equity. That means you need to bring money in just to get back to zero. Believe me this has happened many times in the past. This is why a lot of firms were fiddling with margin requirements at the start of the decade.

Ever known anyone to blow themselves up with naked puts? A put sold with a strike of 100 only requires $2500 margin (rule of thumb number). So you'd have to buy $10,000 worth of stock if assigned on one put. Obviously a brokerage firm would let you sell four puts with only $10,000 (subject to minimum account size). So if this blows up very badly, the put seller might have to pay $40,000 for $15,000 worth of stock. This happened routinely at the start of the decade.

Buying $10,000 worth of Moldovan leus [MDL], or something a little less off the wall, in a cash account could make for a bumpy ride, but won't make for negative equity. And for the this-is-too-dangerous crowd, brokerages could implement a suitability screen like they do with options.

For now, ETFs - limitations notwithstanding - are the easiest way to add currency exposure, at Schwab anyway. If something better comes along, I would have no qualms about bailing on the ETFs. This brings me to a good point to conclude with, which is that the product is less important than getting the access you want.