A newly established index is set to give investors more insight, especially if choosing to invest offshore.
Nomura Holdings Inc.’s new iPhone index, compares the price of the Apple product across the world in order to determine purchasing power parity across different countries.
A similar, well-known index established by The Economist in 1986, known as the “Big Mac index has previously provided information on currency valuations using the McDonalds burger as the base product for comparison. Both indices compare their base product prices in the comparator country in US dollars to determine if that currency is over or undervalued.
If for example, an iPhone acquired in South Africa costs, in US dollar terms, more than the same product in the US, the local currency is often overvalued in comparison to the US dollar.
However, these two indices do not result in similar conclusions. The iPhone index suggests that the US dollar is undervalued relative to other global currencies whereas the Big Mac Index suggests the alternative. The validity of the indices is not under scrutiny as both incorporate different factors: the Big Mac Index effectively measures the input costs to produce the burger locally whereas Apple’s product hardware is acquired from several countries, assembled in the Far East, transported to another country, and has various duties applied.
The real question investors should be asking is: what does this mean for me? What should I consider with respect to investing? And should I acquire foreign currency as an investment holding within my portfolio? A well-qualified financial advisor can assist in deciphering what is best for you and your portfolio.
“There are many variables to consider when looking to invest offshore,” says Danie Venter, advisory partner, Citadel.
“First and foremost, forex values can be highly volatile, making them high risk. An investor who acquired US dollars with rand in January 2010 and remained in cash without further allocation into investments for example, would have earned roughly 93.58% in currency appreciation by July 2016,” he explains. “However, the rand lost 34% of its in value in 2015 before strengthening 14.41% this year, and so the question lies in whether the investor would be able to stomach the dramatic swings in the performance of this asset class over the past three years”.
After deciding what to purchase, the next consideration for an investor is how much and when. Acquiring forex in small increments is costlier than one might think. Forex dealers charge a premium on the spot price for their services as well as a service fee to finalise the transaction explains Venter. Various bank charges are levied, not only to establish the account but also to transfer the funds to the offshore account and these charges are repeated when repatriating the funds.
Depending on the total forex acquired, these charges and costs may represent a significant percentage, which needs to be made up by the currency movement and the return on the investment. The smaller the sum acquired, the greater the percentage the costs represent. For example, transferring R 000 monthly could incur an all-inclusive transfer cost of R750 which represents a hefty 37% in fees. To cover this cost, the investment would have to show extraordinary performance.
Finally, before transferring large sums cross border, investors should be aware that there are some limitations. A person over the age of 18 is permitted a discretionary travel allowance of R1 000 per annum, while those under 18 are permitted up to R200 000. For taxpayers in good standing an additional R10 000 per annum may be applied for through your bank.
Once invested, the funds would generate income in the form of interest, rent or dividends and, if sold, potentially incur a capital gain. Investors must consider the tax payable on the income as well as on any capital gain.
Prior to 1 January 2013, tax was payable on both the capital gain on the asset value appreciation as well as on the currency effect which, in many cases, was enormous. Today, however, the asset value gain is calculated irrespective of the currency one is invested in and is then multiplied by the spot price on the date the asset was sold. This change has significantly reduced the amount of information that one needs to maintain across the term the asset is held. However, with many reserve banks globally in search of inflows, you should include all gains made abroad on future tax returns.
For investors looking to externalise funds, currency levels should play a big part in the decision process as the rate at which forex is acquired sets a hurdle in one’s mind when investing. However, it is important to make offshore investments for the right reasons (such as access to alternative sectors and geographic diversification) and to ignore the currency effect when evaluating performance warns Venter. Currencies are volatile and this will impact on offshore investment performance and one should also consider the costs, goals and strategic aims of the portfolio.