Impact of Foreign Exchange Risk on the Performance of Global Portfolios
Abstract
Nigerian investors diversifying into international markets face a significant obstacle in the form of foreign exchange risk, but there is a startling lack of empirical data on its effects. This study closes this gap by carefully examining the impact of Naira volatility (NGN/USD, NGN/GBP, and NGN/EUR) on the risk-adjusted performance of international portfolios. We use comparative hedging simulations and multivariate regression using monthly data from 2010-2023, which includes Nigeria's 2016 capital liberalisation, several currency crises, and the 2023 Naira float. Key findings show that oil price fluctuations and inflation discrepancies increase losses, and that a 1% increase in forex volatility lowers real risk-adjusted returns (Sortino ratio) by 0.62% (*p* < 0.001). Importantly, despite transaction costs, forward contracts through Nigeria's Investors' & Exporters' window prove to be the best hedge, providing net returns during crises that are 10.8 percentage points higher than unhedged portfolios. Currency diversification provided only moderate protection. According to these findings, Nigerian international investors' underlying asset performance is dominated by forex risk, necessitating management that is given top priority. To turn currency risk from a vulnerability into a managed variable, we advise SEC Nigeria to require real-Naira return disclosures, CBN reforms to expand derivatives markets, and systematic forward hedging for at least 50% of exposure.
Keywords
Foreign exchange risk
Nigerian investors
global portfolios
currency hedging
portfolio performance
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