Currency bark is worse than its bite

AS CRISES go, the currency storm that struck last week was - or has been so far - quite mild, and investors who were slow to react have probably saved themselves some anxiety.

Since last week, the dollar has fallen 1 per cent against the pound, but the pound in turn has lost 2-3 per cent of its value against the mark and yen. Since last December, sterling has weakened 5-7 per cent against its strongest rivals.

The value of foreign shares is immediately and inevitably affected. But perversely, the impact of these latest currency changes has been largely offset by an opposite movement in the underlying value of shares.

The Japanese stock market has been distinctly listless, as Nick Leeson and his bosses at Barings discovered to their cost. The German stock market is close to its recent lows and it, too, fell out of bed on Friday, for reasons that are not altogether clear. It may have been rumours of a banking collapse, but it could have been the uncomfortable realisation that if the mark becomes too strong, German goods will price themselves out of markets at home and abroad, and even German companies with operations outside their home base will find their income flows diminished. For equal and opposite reasons, the New York stock market has been quite robust in relation to the weakness of the dollar. The dollar has fallen to historical lows against both the mark and the yen, but the US is still quite relaxed about inflation, and the risk of importing it is not yet seen as a threat. The Dow Jones is therefore still flirting with its recent record high of 4,011

Currency fluctuations have therefore had less of an immediate impact on specialist unit trusts and investment trusts investing in Tokyo, Frankfurt and New York, but denominated in sterling, than investors might have imagined. Currency fluctuations tend to have rather more impact on the price of investment trusts, if only because unlike with unit trusts, investment trust managers have the right to hold funds in cash and to borrow in various currencies.

Bond funds often reflect currency fluctuations more strongly, because a weak currency often brings rising interest rates and falling bond prices. But the purest reflection of currency fluctuations can be seen in the various money funds, mostly based in the Channel Islands or Dublin, which make their money out of a combination of currency values and interest rates.

Even they can be deceptive. Money funds invested solely in marks or yen will have reflected the currency gains in full, while dollar funds will have suffered, although the value of the funds in their constituent currencies will appear little changed. But managed and diversified money funds are invested in a range of currencies and denominated in sterling and will have shown perceptible changes depending on the mix.