Currency Devaluation and Investment Strategy

Currency devaluation is an intentional downward adjustment of a country’s currency against another currency. It is often used as a monetary policy by countries that operate a fixed exchange rate to control supply and demand. A good example is a devaluation of the Naira (N) against the US Dollar ($). In May 2021, the Central Bank devalued the Naira from N379.00 to N410.00 representing a 7.60% devaluation. Also, notable is China’s devaluation of its currency in 2015. The attendant effect was that the prices of its exports and gained a competitive advantage in the international markets.

Benefits of Devaluation

• It helps to boost the local economy: This is because exports become cheaper and imports become expensive leading to an increase in demand for local businesses which also boosts internal competition. The devaluation of a currency has a trickle-down effect as it leads to increased job opportunities and possible increases in the countries’ productive capacity.

• It improves a country’s trade position: The decrease in imports and increase in exports would lead to a smaller trade deficit and a potential surplus depending on the availability of other economic catalysts such as competitive policies and adequate infrastructure.

Disadvantages of Devaluation

• Due to the weak internal capacity, Nigeria relies a lot on imports. Consequently, currency devaluation has negative implications on businesses that source materials abroad as they are likely to experience a higher cost of production, leading to cost-push inflation which could harm the economy.

• The devaluation of a currency leads to a reduction in the purchasing power of citizens relative to other currencies. For example, consumption, holidays abroad and foreign investments become more expensive.

• Devaluation could scare off international investors as they may be less willing to hold government debt and, in some cases, it could lead to capital flight. This is because devaluation could erode the return on investment.

Despite the negative impacts of currency devaluation, there are investment strategies that could mitigate the negative effects of a weakening currency. On one hand, investing in precious metals such as silver and gold is a very good strategy for investors due to their capacity to serve as a store of value. Another option would be to invest in foreign-currency-dominated investments that are more stable relative to the local currency. While these assets require significant capital to invest, dollar mutual funds are also available to investors who want to reduce the risk of devaluation on their investments. A mutual fund is an actively managed open-ended unit trust scheme that pools money from several investors. In terms of objective, it can be for capital appreciation, capital preservation, or dividend income. Most dollar mutual funds in Nigeria are fixed-income in nature. This suggests that the underlying asset are fixed-income instruments like Eurobonds, Money market instruments denominated in USD. The main objectives are capital appreciation in the medium to long term for investors and dividend income. The fund invests in US Dollar-denominated securities like Sovereign Eurobonds, Corporate Eurobonds, Money Market instruments and other quoted Corporate Eurobonds. Key benefits include diversification, affordability, inflation hedge, and professional management.