One potentially negative factor of investing overseas, whether it is for capital growth or income, is currency risk. Investment returns can be wiped out, or significantly reduced, by movements in the value of currencies relative to sterling. This is good news if foreign currencies strengthen against the pound, but weakening foreign currencies shrink the dividends or growth that UK investors receive when converted to sterling. There are plenty of examples of how currency movements would have significantly eaten into investment returns.
One solution is to hedge the currency risk, but this adds an extra cost to an investment. Studies have suggested that for the long-term investor hedging the currency risk is only worth doing if you are not paying much for it. It is argued that currency risk does not add greatly to the long run risks of international equity investment. It is suggested that stock market risk is reduced more effectively by international diversification than by currency hedging. Some wealth managers, however, argue that currency movements mean that cautious investors might consider retaining a high proportion of their portfolio in UK investments.
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