The recent post on the performance of currency-neutral S&P 500 funds seems to have confused a lot of readers. One commenter pointed out that what matters to Canadian investors is the performance of a currency-neutral fund such as XSP compared to the returns in Canadian dollars of a direct holding in a fund like IVV, not dry discussions of tracking error. So, let’s compare the performance of the iShares CDN S&P 500 Hedged to Canadian Dollars ETF (TSX: XSP) with the returns of iShares S&P 500 Index Fund (NYSE Arca: IVV) for the 2006 to 2009 time period for a Canadian investor. A minor point of clarification: XSP’s inception date is 2001 but I’m picking 2006 as the starting year because in late 2005 XSP changed its mandate from a clone fund (a fund that used derivatives to track the S&P 500 to skirt RRSP foreign content rules that were in force prior to 2005) to a currency-neutral fund.
First, let’s look at how the Canadian dollar performed against the US dollar in the 2006 to 2009 time period. The US dollar was worth C$1.17 at the start of 2006 and ended 2009 with a value of $1.05, which works out to a depreciation of 10.2%. If a Canadian investor purchased a stock trading in the US in 2006 and held it to the end of 2009 and if the stock price remained exactly the same, she would have lost 10.2% in Canadian dollar terms solely due to the depreciation of the US dollar against the loonie.
An investor who had invested $100 (US) in IVV at the start of 2006 would have ended up with $97.5 (US) at the end of 2009 (assuming dividends were reinvested). In US dollar terms, the return works out to a total loss of 2.5%. Canadian investors would have fared worse because it would have cost us C$117 to buy $100 (US) worth of IVV in 2006. At the end of 2009, $97.50 (US) would be worth C$102.38 for a loss of 12.5% in IVV for Canadian investors.
Recall that investors are under the impression that XSP will deliver the returns of IVV in USD for an extra cost of just 15 basis points because the USD exposure is hedged. That is, investors would have expected XSP to also show a loss of roughly 3.0% in the 2006 to 2009 time period. In reality though, XSP lost 13.7% in the 2006-2009 time period, which is more than the loss experienced by a Canadian investor who directly invested in the S&P 500 and did not hedge the currency fluctuations even though the US dollar depreciated 10.2% that period.