Every asset holder eventually faces the dilemma of which currency they should keep their assets in. In Latvia, where the lat is a means of payment, part of the deposits are traditionally placed in lats, although a large part is kept in foreign currencies – the U.S. dollar and the euro.
Since the lat will be pegged to the euro, the holders of lat assets have a choice – leave them be or to change them into another currency. The latter, from our point of view, looks more appealing.
It is a well-known fact that the lat is tied to the SDR basket (which contains the U.S. dollar, the euro, the British pound and the yen), so as to smoothen the rate fluctuation, existing among these currencies. On Dec. 31, when the lat will be tied to the euro, it will cease to change against it and will instead undergo all fluctuation of the euro against other world's leading currencies.
The lat will be tied to the euro according to the market rate on the date of the pegging – i.e. as of Dec. 31, 2004. In accordance with this rate, all lat assets will be converted in euros automatically at the moment of the switch to the euro, which is due to occur in 2007-2008. Thus, the rate on this date will be the major deciding factor on how much the holders of lat assets will gain by switching to euro.
According to our prognosis, the euro will continue strengthening until the end of 2004 and as of Dec. 31 its rate against the U.S. dollar will be 1.35 – 1.40 and 0.70 - 0.71 against the lat. If our forecast is correct, then those holders of lat-denominated assets who have already exchanged their lats will find themselves in a more advantageous situation than those who continue keeping their assets in lats up to the moment of the official tie.
Another course of action on disposing lat assets would be to exchange them into U.S. dollars. Starting from 2001, we have observed the long-term cycle of the U.S. dollar decrease, which, according to our point of view on the market, will continue for some time. Respectively, at the end of 2004 we forecast the U.S. dollar rate against the lat at the level of 0.49 – 0.50. Over the next one - two years, we expect a reverse in the fall of the dollar toward a long-term increase. If this forecast bears itself out, the conversion of lats into U.S. dollars at the end of 2004 might be a very sensible decision.
Of course, the question of which currency to keep one's free assets in is an individual one and depends on the currency territory the holder of assets is planning to operate in, whether he is pursuing speculative objectives or is oriented toward long-term placing, etc. Regardless, the easiest way to deal with a periodical devaluation of assets concentrated in one particular currency would be establishing a multicurrency position – one based on, naturally, hard currencies. We are speaking, of course, about the U.S. dollar and the euro, but there can be a particular interest in such currencies as the British pound and the Swiss franc. Those who are fascinated with the exotic can also work with the yen.
Of course, the holder of such multicurrency account also remains on the terms of uncertainty when waiting for future mutual currency movement in the basket. As the management of this portfolio is relatively simple then, losses of the capital are easier to avoid when there are drastic changes in currency rates. o
Leonid Alshansky is head
of the investment management
department's analytical division
at Rietumu Banka.