Which statement about currency hedging in global funds is true?

• A. It always eliminates currency risk with no cost.
• B. It has no effect on risk or returns.
• C. It can mitigate currency risk but may add costs.
• D. It guarantees higher returns.

Answer: (C)

Currency hedging in global funds is about reducing exposure to exchange rate movements so that asset performance isn’t driven as much by currency swings. This helps smooth returns when currencies fluctuate, but it’s not free and it doesn’t promise higher returns.

The best statement reflects that hedging can mitigate currency risk but may add costs. When a fund hedges, it uses instruments like forwards or futures to offset FX movements, which can reduce volatility from currency changes. However, those hedging activities come with costs—transaction fees, bid-ask spreads, and potential mismatch between the hedge and the actual exposure. If the currency moves in a way that would have benefited the unhedged position, hedging can also dampen those gains. So hedging reduces currency risk but can drag on performance due to costs and imperfect hedges.

The other ideas—eliminating all currency risk without cost, having no effect on risk or returns, or guaranteeing higher returns—aren’t accurate because hedging isn’t perfect, it incurs costs and can influence returns, and it doesn’t guarantee outsized or superior performance.