The near-zero short-term interest rates in the US and eurozone explain why for the euro-dollar foreign exchange rate – the premium paid on the forward market – is so low compared to the spot market. For instance, when looking at the euro-dollar spread between the one-month forward rate and spot rate, the cost of hedging the euro against the dollar would have cost approximately 3.5 basis points (0.035 per cent) on average this year.
Given the intention of the ECB to keep QE going at least until the middle of 2016, it may not be until 2017 that the ECB raises policy rates. Coupled with a very cautious Fed, the cost of hedging the euro against the US dollar is expected to remain low for a considerable time.
Hence, in such uncertain macro environments and low currency hedging costs, investors should consider a currency-hedged overlay to their European equity exposure. Within an ETF wrapper, investors get this exposure in one simple trade.
Viktor Nossek is director of research at Wisdom Tree Europe
