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How the Dollar Affects Your Investments and What to do about it (Part 2 of 2)

Posted by on Jan 24, 2010 in Investment Management | 5 comments

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In my article last week, I explained that the US Dollar fluctuates because of the mixture of buyers of US Dollars, sellers of US Dollars, Production of US Dollars, and the Allure of US Dollars.

Now if you are an individual or a business that is greatly affected by USD fluctuations (i.e. Export-Import Companies, OFW’s or Local Dollar Earners), I’m going to share exactly what I do to protect the value of my money against erratic USD fluctuations.

***Disclaimer: This article is for educational purposes only and explains what I do with my own personal funds. This does not constitute financial advice and should not be treated as such. However, I do strongly recommend that you first consult with a Professional Financial Adviser about my methods AND get more educated first before you do anything***

So let’s begin our lesson today by first explaining how the fluctuations of the USD affect the Peso. I want you to remember this first and very important rule: The relationship between the USD and the Peso is “inversely proportional” to one another, meaning when one currency goes up by a certain amount, the other currency goes down by the exact same amount, at the exact same time always.

To make this concept clearer, I want you to think of and imagine a “see-saw”. The principle behind a see-saw is that when one side goes up, the other side goes down. Now imagine the USD sitting on one side of the see-saw, and the Peso on the other side. So when the USD goes up, the Peso goes down and when the USD goes down, the Peso goes up.

For example: You see in the papers that the USD is equivalent to 45 Pesos today, if tomorrow the published rate of USD becomes 46 Pesos that means the USD went up in value by 1 Peso, or in other words, became more expensive by 1 Peso. So if I wanted to buy the USD at the new rate, I would need 1 Peso more which means that the Peso dropped in value by the exact same amount (and the exact same time) that the USD rose in value.

Let’s continue the example, now let’s say that the USD is equivalent to 45 Pesos today, and tomorrow becomes 44 Pesos, that means the USD went down in value by 1 Peso, but at the same time, the Peso also went up by the exact same value because if I wanted to buy the USD now, I would need 1 Peso less.

(If my example is giving you a nose bleed, read it a few times and you will get it eventually)

Now keeping this in mind, here’s how I protect the value of my money against USD fluctuations. In the world of finance, this is what is known as “Hedging” or “dynamically protecting your asset(s) / investments against losses”.

So let’s say I have in my bank account $1,000 right now. If the USD is currently at 45 pesos and goes down to say 43 pesos, my $1,000 would lose value right? For some people / businesses in the same position, they would simply shrug their shoulders and just go with it, but for a great number of people / business, they might start to panic and start “converting” all of it to Peso for fear of losing even more money.  (Take note:  A small rise or fall of the price of dollars can be staggering if you are dealing with hundreds of thousands of dollars.)

Here’s a typical example: You have $1,000, the price goes from P45 to P43, you panic, change all your dollars to Peso which will now mean, your holding on to P43,000 ($1,000 x P43) but the next day the price goes back up from 43 to 45, because you panicked and did not know how to properly time your exchange, you lost P2,000 (P45,000 – P43,000).  If you have $10,000, you would have lost Php20,000.  If you have $100,000, you would have lost Php200,000.

While panicking is understandable, the problem with changing your USD to Peso may make you lose even more money unnecessarily as you can see in the example above. This would be especially true if you do not know if the value will continue to go down and more importantly, if you do not know how to “properly time” your currency exchange.

So in order to avoid these losses, and panicking altogether, here’s a simple strategy that I do to “hedge” or protect myself against these fluctuations.

If I have a Dollar account with my local bank (where I keep my dollar holdings), I simply open a brand new Peso savings account with the same bank. Take note, this is separate from my existing Peso account which I use for regular expenses. The purpose of this new Peso account is for me to start “hedging” my Dollars.

Once I have this new Peso account, all I do now is to “slowly” divide my dollar holdings into these 2 accounts. Meaning if I had $1,000, the end goal is to only have $500 in my dollar account and I will convert the other $500 to peso and deposit it in the newly created peso account. When I say “slowly” I mean I change a small amount every week until I completely divide my dollars into these 2 accounts.

This is what my dollar holdings will look like when I am done:

Why you ask? Because, and remember the “see-saw” example I gave a while ago, if and when the USD goes down, one half of my funds, the one half that I kept in dollars will go down, but the other half of my funds, the one that I converted to Peso will go up by the exact same amount, at the exact same time. This simple account split that I just did, will now protect me from USD fluctuations.Of course, this method will have costs associated with it, the cost is the conversion rate from USD to Peso at the time that I convert my money plus the cost of maintaining another bank account. However, in the long run, regardless of the fluctuations of the USD, having a “hedged” account will “lock” in the value of my money until I choose to do something more profitable with it.  And as businessmen or dollar-earners, knowing how to protect your hard-earned money is a necessary skill that you must learn.  I hope that this article helps open your minds to the world of finance and how it affects money.  That way, we will all be able to manage our money better.

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Join the conversation and post a comment.

  1. Jerico

    A mind opener indeed. It will help boost my financial strategies. Thanks to your generosity.

  2. Alfachie

    Hi Mark, I would like to thank you for opening our minds and making us aware of handling our hard earned money. I just have a concern regarding my dollar account, i only have a few hundreds in my account but the maintaining of the bank is 500 so i was thinking of pulling it out and transfer it to a mutual fund to which i learned will give me a higher interest rate than the said bank. But i was hesitant and having second thought if i have to do it coz i lack knowledge on mutual funds. But as much as i want to put it in a different investment i really dont have a wider know how and am scared that i might end up in tears if i lose them because i made a mistake.
    Thanks for your time.

    • markso

      Hi Alfachie, the first rule of investing is: “Never invest money that you are not willing to lose”. The second rule of investing is: “Never invest money in something you do not understand”. Lastly Mutual funds are basically “pooled” funds or “shared” funds from people who want someone else to manage it for them. Some funds are very good, while others are “so-so” however, please note that ALL true investments can NEVER guarantee safety of your funds, meaning if you kept your money in the bank, it is insured and guaranteed up to 500,000 by the PDIC. But if you pull that money out and put it into a legitimate investment, there is no insurance, no guarantees and you can end up losing everything you put in. Get educated first before you invest in anything. I suggest attending a mutual fund seminar, google it and you should find one for free in the Philippines. Hope this clarifies

  3. Prices

    Strongly suggest adding a “google+” button for the blog!


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