Tags: [cash management, financial freedom in Singapore, learn and grow, personal finance in Singapore]
How many times have you heard of the term, “past results is not a guarantee of future performance?” when it comes to investing?
I learnt a painful lesson today when my foreign currency fixed deposit (FCFD) matured because I made a wrong calculation of the risk-return of investing in the FCFD. The lesson cost me $783.47 in realised losses. 
What happened?
Foreign currency fixed deposits or FCFD for short are basically fixed deposits but in a currency that is other than Singapore dollar. I have had some measure of success with a deposit I placed sometime ago in NZD yielding 8.3% interest at an exchange rate of NZD/SGD 1.07. I had been monitoring NZD and thought I was able to get a sense of how volatile the currency could be against the Singapore dollar. Whilst this deposit is set to auto-renew both principal and interest perpetually, I decided that since I managed to get good returns from this instrument, why not try another tranche to get better returns as compared to 1% on Fairprice Plus Savings Account.
So I went ahead to place a deposit of NZD 12,890 x 1.1077 (S$14,278.25) at an interest rate of 8.1%. Now if I had placed that deposit for 1 year, I would be able to beat bank savings rates of 1% so long as NZD/SGD didn’t fall by more than 7.1% over 1 year. But I made a big error…
What went wrong?
The error was that whilst I was using 8.1% as the possible returns, I forget to divide it by 12 to get the potential high interest on a per month basis as I was putting in the FCFD for only 1 month! Thus, the returns over 1 mth is 0.675% which means my interest in NZD would be completed wiped out by exchange losses should NZD weaken, which it promptly did. As a result, my NZD 12,890 gave me an interest of NZD 87. Principal + interest of NZD 12,977 x exchange rate of 1.0399 (depreciation of NZD against Singapore dollar of 6.12% over 1 mth) = S$13,494.78 resulting in a loss of S$783.47.
What can I learn?
My mistake was the classic case of comparing apples and oranges. I was comparing the potential returns on a per annual basis and comparing it to exchange rate volatility on per annual basis when I should be using the monthly interest and compare it against the potential losses should exchange rate fluctuate beyond a certain range.
My mistake was in being over-confident and making a fast decision on something that was still relatively new to me as compared to plan vanilla Singapore dollar fixed deposits.
My mistake resulted in a loss of 5.48% of my money invested in this tranche of FCFD!
I still have a NZD FCFD but this is a small portion of my portfolio and set to auto-renew in perpetuity. Thus, I can hold on and let the rule of 72 work its magic over the years.
In the meantime, I learnt a costly lesson but fortunately I did make some money on a punt on SPC that more than covered this loss so while painful, the mistake isn’t catastrophic.
Over-confidence is a dangerous thing when it comes to investing. I hope by sharing the tuition fees I pay to the market you can avoid such pitfalls.
Be well and prosper.
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21 Comments to this entry.
Hi….tough to hear that.
I also paid many tuition fees. Just as long as you “try” not to repeat it again.
since you are interested in high yields, have you considered REITS, Shipping Trusts or business trusts listed on SGX?
Hi panzer, do you have any experience with dual currency deposits? I’m interested in SGD/AUD dual currency. The reason is that my sister is going to AUD for studies.
If SGD weakens agains AUD, I would get back SGD with interest. (no prob there).
If AUD weakens against SGD, I would get back AUD with interest and give the interest out to my sister, while rolling the interest into another term.
Would that be a viable investment?
I made a US$ FCFD a year back , when the exhange rate was 1.5
now it’s 1.35. Very expensive lesson for me. Now instead of realising the exchange rate loss , I’ve put the money in USD denominated unit trusts instead, I could use it to buy US shares as well once the credit-crisis settles
Hi PG,
Don’t worry abt it. Happened to me as well. As long as it is on auto rollover, it should cover base on the rule of compounding. What I did was to buy at a lower price and at batches of $5K. That averages over time and there is gain now. Cheers
Hi Panzer,
Sorry to hear of your experience and your realized losses. Behavioural Finance is one aspect which all of us should be aware of, as it affects our investing behaviour and how we perceive risk/reward.
I personally believe over-confidence, loss aversion and over-reactiono bias are the three most pervasive psychological forces you will encounter while investing. I have taken the liberty to read up extensively on these in order to avoid falling into these “traps”. It’s good to learn from minor mistakes so as to avoid more major ones in future.
Cheers,
Musicwhiz
Other unforced own goals included selling more than what the CDP account have (which I don’t understand why the system cannot have real time linkages), keying sell order when you intended buy orders.
:p
Hi Panzer,
Sorry to hear about this. I remember that FCFD was the rage some years back. They were offering almost 10% interest for currencies like NZD, USD etc. Luckily for me, I had no money at that point of time else being a Financial idiot then, I would have readily invested my money. 10% is like wow, and fix deposits are supposedly risk free!
I hope more people will be wary of such products in future If something is too good to be true, there must be a catch.
Cheers!
Derek
[...] Losing money on 1 month foreign currency fixed deposit By: PanzerGrenadier [...]
Since you said that your FCFD is set to auto-renew, then why did you said it is a realized loss? Isn’t it possible to continue the fixed deposit until the interest gain or currency fluctuation is in your favor?
Hi Dsea
Yes, tuition fees are part and parcel of any investment journey.I am just fortunate that my losses are relatively small relative to my porfolio..hahah.. I have invested in REITS e.g. FSL and CIT for reasonable yields.
Clock it down to lesson learnt.
Hi musicwhiz
Any books on those topics to recommend? Knowing human psychology is key to beating inflation in the markets. I recall reading Burton G Malkiel’s “Random Walk Down Wall Street” and his first few chapters were devoted to talking about the stock market bubbles of the past!
Those who fail to learn from history are condemned to repeat the mistakes.. so the saying goes…
Hi Derek
FCFD is not good/bad. It’s just that the currency risk is very high for short-term durations. Actually, over long-term and if you let the FCFD renew in perpetuity, it should be interesting to see how it performs. I have a small amount in NZD at 8.3% and am prepared to let it auto-roll until my daughter turns 21 (she is now all of 2 months old!). So using rule of 72 (assuming 8.3% interest) in 8.6 years, the amount will double, and again, hmmm.. perhaps this is the way to provide for her college tuition assuming the NZD becomes strong again in 20 years time!!!
Dear Piggy
I have 2 tranches (2 FCFDs). The 1st is on auto-renew and is still going on. The 2nd one is the one I made a boo-boo
Dear anonymous May 13th, 2008 at 1:55 am
If you are indifferent to receiving your principal+interest in either AUD/SGD, then you can consider dual currency deposits. But I should be the last person to give advice given my track record in forex related investments!
Tan Kin Lian’s blog talked a bit about it and he did make some observations. Can check out his blog.
Hi guys,
There is no such thing as free lunch in the investing world. Before you hop onto time deposits of foreign currencies such as the Australia Dollar, NZ Dollars or US Dollars, it is important to understand the concept of Interest Rate Parity.
According to Interest Rate Parity theory, the difference between the risk free interest rates paid on two currencies should be equal to the differences between the spot and forward rates.
If Interest Rate Parity is violated, then an arbitrage opportunity exists. The simplest example of this is what would happen if the forward rate was the same as the spot rate but the interest rates were different, then investors would make a ‘riskless profit’ by:
1. borrowing in the currency (i.e SGD) with the lower rate
2. converting the cash (SGD) at spot rates
3. entering into a forward contract to convert the cash plus the expected interest at the same rate
4. investing the money at the higher rate (i.e AUD time deposit)
5. converting back through the forward contract
6. repaying the principal and the interest, hence making a risk-free profit.
Interest Rate Parity attempts to conclude that spot and forward prices for currency pairs have already incorporated the interest rate differentials; as a result, the possibility of additional riskless gains, owing to higher interest rates on one currency over another, is minimal.
Talking about Compound Interest, please take note you will not be able to get 8% p.a for NZD year after year. The yield will be adjusted based on market expectation of the movement of the foreign currency. For example, do you know that the 12-month yield for USD/SGD FCFD of US$100,000 was just 1.34% in March 2008. This is because of market expectation of a rebound in USD. But after MAS’ announcement of a strong S$ policy to fight imported inflation, the yield shot up to about 5% for 3-mth USD/SGD deposit. Granted, with such a policy, foreign currencies are expected to depreicate against S$ in the short-mid term, thus the high-yields.
In summary, high-yielding foreign currency pair deposits may not be a sure-win strategy due to Interest Rate Parity. The return will be further eroded by the bid-ask spreads imposed by the banks. So, keeping deposits in foreign currencies in the longer-run may not be too profitable.
You forgot to divide one year’s interest by 12 ??? I’m still doing trial and error FCFD investments on paper to test my dollar sense.Too scared to make the plunge yet. My conclusion for FCFD is aim for capital gain from currency appreciation, don’t aim for high interest rates. The former criteria is a definite win, the latter criteria is only a win if the former is a win.
Dear Jason
Thanks for sharing on the interest rate parity theory.
Do you have a blog? You sound very knowledgeable on the subject and I’m sure many would gain from your insights!
If you ever want to contribute an article to fivecentstencents.com you are more than welcome.
Be well and prosper.
Hi Zitrone
Yup, I made a rookie mistaken in the interest rate not being divided by 12.
Actually FCFD IMHO is not a good instrument for capital gains/losses because the tenure is fixed, so your ability to long/short the FCFD is very restricted since you can’t really uplift at favourable/unfavourable exchanges rates since you lose the interest.
[...] know that investing in instruments riskier than fixed deposits, savings and treasury bills exposes you to risk of capital losses. You also know that staying safe [...]
hi,
now the price for NZ had dropped to 1.0349. it had dropped to all time low in 2 years.
tot NZ is a commodity country & government would try to keep the currency stable.
Anyone knows how to hedge NZ dollars? Maybe by hedging, we can reduce the risk.
Hi Jolene
Yes, forex rates are highly volatile. We can reduce the risk from hedging but not many instruments available to small investors.
Hence, it’s quite risky to invest in FCFD unless our intention is to let it renewal (almost perpetually)
In my case, I have small amount in NZD FCFD to auto-roll until my daughter is 18 years old. She is currently 3+ months old…hahaha
Be well and prosper.
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