Finding a haven in selected currencies
The US dollar, yen and Swiss franc can be valuable components in a basket of safe-haven assets within a diversified portfolio
HUMAN history is filled with stories of searches for safe havens. Early explorers found havens from storms and raiders in friendly harbours. Human migration has been directed towards physical safe havens when threatened by fallout from conflict. Therefore, it is no surprise that financial market investors, too, seek safe havens when investment portfolios are threatened by shocks, volatility or other sources of losses.
A safe-haven financial asset is one that maintains its value, or even rises in value, when market volatility rises and major risky assets fall. Financial markets offer a range of such potential safe havens. Gold is a favourite, with possibly the longest history of safe-haven demand.
Equities have defensive sectors which deliver relatively stable earnings through good times and bad. High quality government bonds can offer a safe haven. In currency markets, the US dollar, Swiss franc and yen have performed best during uncertain times.
What makes a safe haven
It is often argued that the US dollar, Swiss franc and yen act as safe havens because their markets offer key safety characteristics, including political stability, economic strength, financial market depth and low inflation.
The greenback makes a strong case for itself in these terms – most global investments are still US dollar-denominated. This means that at times of market volatility, many such investors withdraw to the relative safety of the US dollar, thereby reducing currency risk in their portfolios.
Looking beyond the greenback, one can argue that the qualities described above are available in a wider range of currencies beyond just the yen and Swiss franc.
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However, this is where we rely to some degree on observed behaviour. During the great financial crisis of 2008, for example, the S&P 500 peaked on Oct 11, 2007, before selling off sharply. From this date, the yen and the Swiss franc gained almost 17 per cent against the US dollar until their near-term peak in mid-March 2008.
Similarly, the yen and Swiss franc gained 11 per cent and 7 per cent, respectively, trough to peak against the US dollar as the Covid pandemic broke out in the first quarter of 2020.
Indeed, a 2013 study by the International Monetary Fund found that the yen behaved like a safe-haven currency over time, as changes in the perception of risk by global investors drove such flight-to-safety behaviour.
Adding to havens in a portfolio
Safe-haven currencies can play a useful role in investment portfolios. While they are not meant to be a key source of long-term returns, they can add stability during periods of volatility and help preserve dry powder to take advantage of pullbacks in risky assets.
Two notes of caution are warranted, though. First, while the idea of a safe haven is tempting, a long history of financial markets shows us that there is no such thing as the “perfect” safe haven. There has been at least one instance where each so-called safe-haven asset class has fallen in value during elevated market volatility and, therefore, failed in its role as a safe haven.
Thus, some currencies can be part of an overall basket of safe-haven assets which can help lower an investor’s portfolio volatility in times of uncertainty.
The second is related to time horizon. Many safe-haven assets, including currencies such as the yen and Swiss franc, help mitigate weakness in risky assets over relatively short periods of time. Each risk event is different to some degree, so investors need to assess each incident separately and not wait too long in taking profit on any safe-haven gains.
A useful investor tool
Safe-haven assets may not always be a key source of long-term returns, but they are useful tools for investors to add stability to a portfolio during times of market volatility. While there is no perfect safe-haven asset, currencies such as the US dollar, yen and Swiss franc can be valuable components in a basket of safe-haven assets within a diversified portfolio.
The writer is chief investment officer for Africa, Middle East and Europe at Standard Chartered Bank’s Wealth Solutions unit
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