ETF Spotlight: Japan Hedged Equity Fund (DXJ)

DXJ invests in Japanese equities with a twist: it hedges for fluctuations between the U.S. dollar and the Japanese yen. In other words, this currency-hedged product tracks equities while mitigating the currency risk associated with a foreign country – especially one that has struggled as mightily as Japan. This allows investors to gain exposure to Japan without having to worry about a flailing yen, something that has been a trend in recent decades.

The fund holds just over 300 Japanese equities with a focus on the consumer cyclical sector, though industrials also account for a decent portion of the fund’s assets. From a market cap perspective, the majority of the holdings fall under the giant and large-cap umbrella, with a small percentage of assets going to smaller companies.

The performance of DXJ has been one of its most alluring features since it was introduced in 2006. Though it got off to a low start, DXJ began to consistently outperform the non-hedged Japanese equity product, the iShares MSCI Japan ETF (EWJ A) starting in 2013. That performance drew investors from far and wide as DXJ saw net inflows of $9.3 billion in 2013 and 2014 combined.

Japan is an export-heavy economy, and when the yen sinks, the stock market tends to move higher. In that regard, a sinking yen plays into the favor of DXJ, as its hedging will profit from volatility in the USD/JPY ratio as well as its equity holdings gaining. The Japanese Government has been fighting economic hardships since the 1980s and has tried a multitude of techniques to try and fix the issue. A number of these policies have led to a weakened yen, which has, in turn, been positive for DXJ [see also Currency ETFs vs. Their Stock Market Since Market Bottom].

Investors in this product will want to see the yen be devalued by the local government, or simply a weakening yen overall, as it plays into DXJ’s hedge while simultaneously helping lift many of its equity holdings.

Given its targeted strategy, DXJ would not be a core building block in a portfolio, but rather a small complement holding in an already well-diversified portfolio. This ETF makes a great addition to investors looking to round out their international exposure while mitigating the risks of foreign currency developments. The fund charges 48 basis points for investment, which is on the low end of the spectrum given its targeted nature.

Investors who enter a position in DXJ should pay close attention to the Japanese equity market, the yen, and monetary policy in Japan.

DXJ has been one of the most successful currency-hedged products in the ETF world, as its take on the Japanese economy has caught the attention of investors around the world. As always, be sure that you fully understand the risks associated with DXJ prior to making any kind of position.

Follow me on Twitter @JaredCummans.

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Disclosure: No positions at time of writing.