International diversification to protect your savings against a currency crisis.

Between September the previous year and June this year, Pedro had lost 74% of his savings measured in dollars. He was holding the savings of his family in cash. Stock markets were falling all over the world. Inflation was shooting up and live was becoming much more expensive every day. It was crisis.

However, the year was 2002 and Pedro was living in Argentina. Argentina faced in those years a currency crisis. Within a short period, the peso lost almost three-quarters of its value against the dollar. How is this relevant for me, you may ask. Let me explain.

Asia and other emerging markets are taking an ever larger share of the global economy. The inter-dependency between all economies is growing. The world economy is growing. The demand for natural resources and commodities like oil is growing. Prices of goods and services are defined by global supply and demand.

And this means that you and I must be prepared to pay prices for products that are set in a global market place. If our own currency will get weaker compared to the global basket of currencies, life in the end will become much more expensive for us. Do you recognize this?

Wealth in a Global Currency

As a result of this, I do not think that you should measure your total wealth anymore in just one currency. In the long run, you may seem to get rich in one currency. But what good is this to you when the value of that currency on the world market is continuously decreasing?

So far, I calculate on a monthly basis my wealth in US Dollars and Euros. I just work out what it is in one currency and then calculate what it is in the other currency, using the exchange rate of that moment. In this way I can monitor my wealth progress in these two major currencies.

The recent events, however, with the debt ceiling debacle in the US and the crisis in Europe have made me start thinking if I should not start using another currency as well. Maybe there is a basket of global currencies that I could use as a reference. I was thinking about the SDRs (Special Drawing Rights) from the IMF.

However, these SDRs only include the US Dollar, Euro, Yen and British Pound. That is not what I am looking for. Something with more emerging market contents would be preferred. Gold could be an option. But Gold is also not ideal since its price is very volatile. I’ll keep searching. Let me know if you have any suggestions.

The Risk of Being in Cash

But let’s now have a look at the lessons I learned last week when reviewing my financial situation. This has to do with currencies.

In the beginning of August 2011, I sold most of my stock holdings. The long-term trend signals were pointing down and I moved almost completely to cash. I only kept my investment in Gold. This is about 10% of my savings.

Before I sold all my holdings in various stock index funds, I had a portfolio that was nicely distributed over the US, Europe and Asia. But after I sold my funds, I had most of my savings in just one currency.

Remember Pedro, from the beginning of this article. Now, I do not say that the US Dollar or the Euro will lose 75% of their value the coming 9 months, but who knows what will happen. These are clearly uncertain times. And because of that and having most of my savings in just one currency, I felt rather uneasy.

Therefore I started to look for a plan to invest a larger part of our savings in Asia and other emerging markets. But stocks in emerging markets are also still showing a long-term trend that points down. Investing my money there could do more harm than good.

This is How I Protect My Savings Now

In the end I decided to do the following:

• Invest in a Commodity index fund. This fund invests in a basket of commodities. These commodities are priced in US dollars but in the end it is the global supply and demand that defines their value.
  (iShares Dow Jones-UBS Commodity Swap)
  
  
• Invest in a high dividend fund for Asia Pacific. Here I take, like usually, the long-term view. But contrary to my normal trend following approach, I do not look at the price level development of the funds. I just look at the annual return I get in the form of dividends. Extraordinary times require unconventional approaches.
  (iShares DJ Asia/Pacific Select Dividend 30)
  
  
• Invest in a fund that invests in selected emerging market government bonds. The average time to maturity for these bonds is 8 years and the yield is around 7%. Normally I am not that keen on bonds, but again… these are extraordinary times.
  (iShares Barclays Capital Emerging Market Local Govt Bond)

Together with my investment in Gold, these 3 investments are reducing my reliance on the US Dollar and Euro.

To practice cost-averaging, I will spread out the investments in these assets over a period of 3 or 4 months, gradually reducing my exposure to my home currency. I am not 100% confident with my investments in the commodity and bond funds.

But it is only a minor part of my total wealth and I do not see any better options. As soon as the Asian stock markets start to show a long-term trend that points up, I will convert these holdings into Asian stock index funds.

Your comments and questions on my approach and thinking are very welcome.

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And what about you?

Do you have most of your savings in a single currency? Or have you protected them from a possible crisis and do you sleep well with that at night?