What are Currency ETFs?

A currency exchange traded fund tracks exchange rate movements, as opposed to index movements. It tracks the performance of the Australian dollar against a foreign currency, for example, against the US dollar.

What is an exchange rate? It is the price of one currency in terms of another. The AUD-USD for example. This exchange rate can be expressed in two ways: the equivalent of one US dollar in Australian dollars, and the equivalent of one Australian dollar in US dollars.

Let's take a US dollar ETF. If the USD strengthens against the AUS, the ETF price will rise. If the USD weakens against the USD, the ETF price will drop. If you are vacationing in the US, it would be good news if the Australian dollar rises against the US dollar, as you can buy more with Australian currency. This is bad news, however, if you hold currency ETFs. A strong AUD works against you, as the ETF value will fall.

Benefits of Currency ETFs

Of course you can trade directly in the Foreign Exchange (Forex) market, so why use currency ETFs? Currency ETFs are convenient to trade on the ASX and are cost effective. For retail investors, cost effective means that there is a narrower spread between bid and offer price for currency ETFs than the spreads available when trading Forex. The costs of currency ETFs plus management fees are also likely to be lower than the costs of directly buying foreign currency.