Living in Europe is an exciting and enriching experience, but it also comes with its own challenges. One of the challenges for Americans living in Europe is managing currency risk.
Americans living in European countries such as Spain, Portugal, France, Italy, Greece, Germany, Belgium, the Netherlands, Austria and Sweden often have to transfer money between the US and Europe, whether regular income from the US, paying US expenses from Europe (perhaps relating to a retained property there, or for education fees, or maintenance for family members), or for occasional large purchases in Europe such as buying a car or home.
Furthermore, you may regularly pay into or receive money from an investment or pension account in the US while living in Europe.
With fluctuating exchange rates, there is a real risk that you can lose out every time you send money between one country and another. What is the best way to transfer internationally? When is the best time to transfer? In this article, we’ll explore what currency risk is, how it affects Americans living in Europe, and outline some strategies for managing it.
What is currency risk?
Currency risk is the risk of loss arising from a change in value of one currency against another, and particularly when you have to transfer funds internationally. Exchange rates are constantly fluctuating, and changes in exchange rates can have a significant impact on the value of your assets and transfers. Currency fluctuations can happen because of numerous factors, such as economic uncertainty, political instability, inflation, and changes in interest rates.
How does currency risk affect Americans living in Europe?
For Americans living in Europe, currency risk can impact their finances in several ways. First, if you’re earning income in euros but have expenses in dollars, or vice versa, changes in exchange rates can impact the amount of money you have available to cover your expenses.
Second, if you’re planning to repatriate funds back to the United States, changes in exchange rates can impact the value of your assets. If the euro weakens against the dollar, you may find that your assets are worth less when you convert them back to dollars.
Finally, currency risk can impact the value of any investments you hold. If you’re investing in euro-denominated assets, changes in exchange rates can impact the value of those investments when you convert them back to dollars.
Determining your base currency
Your base currency is the currency that you use to measure your portfolio’s performance. It’s the currency in which your account is denominated, and it’s the currency that you use to track the value of your investments. For example, if you’re a US-based investor and your account is denominated in US dollars, then your base currency is the US dollar.
When you buy or sell investments denominated in a different currency, the value of those investments will fluctuate based on changes in exchange rates. These fluctuations can impact the value of your portfolio and your returns, which is why it’s important to determine your base currency.
If you’ve moved to Europe permanently, and haven’t retained assets in the US, it’s reasonable to assume that your base currency is now Euros. If you’re living abroad temporarily or if all your assets and income are in the States, the US dollar is still probably your base currency.
Evaluating your currency exposure
Your currency exposure is the total value of all the investments in your portfolio held in a currency other than your base currency , converted into your base currency. So for example, if you hold €10,000 worth of European stocks and your base currency is US dollars, then your currency exposure is the US dollar value of those European stocks.
Understanding your currency exposure is important because it can help you manage your risk and make more informed investment decisions. If you have a large exposure to a particular currency, for example, you may want to consider hedging your exposure to reduce the risk.
If you hold assets in multiple currencies, a currency overlay program can help you calculate your currency exposure. These programs use algorithms to calculate your exposure to different currencies and provide you with real-time data on your exposure (which is constantly changing as exchange rates fluctuate. Alternatively, your expat financial advisor can assist you in managing currency risk by helping you to assess your exposure and develop a strategy to manage your risk based on your investment goals and risk tolerance.
Strategies for managing currency risk
Fortunately, there are several strategies that Americans living in Europe can use to manage currency risk. Here are a few options to consider:
Hedge your currency risk
One strategy for managing currency risk is to hedge your exposure to foreign exchange fluctuations. This can be done by using forward contracts or options to lock in exchange rates for future transactions. While this strategy can be effective, it can also be complex, so it’s important to seek professional advice before deciding to use it.
Use currency exchange services
Another strategy is to use currency exchange services that offer competitive exchange rates and low fees rather than banks. Services such as Moneycorp and Wise allow you to minimize fees, and may be able to set up transactions to only happen when the exchange rate is favorable. These services can help you get the most out of your money when transferring internationally. However, it’s always sensible to compare rates and fees before choosing a particular international exchange service.
Diversify your assets
Diversifying your assets across different countries and currencies can help reduce your exposure to currency risk. By investing in a mix of assets denominated in different currencies, you can potentially offset losses in one currency with gains in another. However, it’s important to seek professional advice before investing in this way to ensure you achieve both your currency risk management and wider financial goals.
Keep an eye on exchange rates
Monitoring exchange rates can help you stay informed about changes in currency values and make informed decisions about when to convert between currencies. There are several online tools and apps available that can help you track exchange rates in real-time and receive alerts when exchange rates change in your favor.
Plan ahead
Finally, planning ahead can help you manage currency risk more effectively. If you know that you’ll need to repatriate funds back to the United States in the future, for example, you can start monitoring exchange rates and planning accordingly. By being proactive, you can potentially reduce the impact of currency risk on your finances.
In conclusion, by understanding currency risk, seeking advice and implementing risk management strategies, you can help protect your wealth and minimize fees when transferring internationally.
If you have any questions about financial planning as an American living in Europe, get in touch.
This article is for informational purposes only; it is not intended to offer advice or guidance on legal, tax, or investment matters. Such advice can be given only with full understanding of a person’s specific situation.
