Weak-Dollar Woes

How various fund options can help protect your portfolio

the total return to U.S. investors would be 16.10%. (On the other hand, a 10% gain by the U.S. dollar would result in a net loss for U.S. investors.)

If you’d rather not pick and choose among currencies, Deutsche Bank offers PowerShares DB US Dollar Index Bearish (UDN). There’s also PowerShares DB US Dollar Index Bullish (UUP), for contrarians, and PowerShares DB G10 Currency Harvest fund (DBV), which follows a strategy designed to produce high returns by moving in and out of futures contracts. “With UDN, the bearish ETF, we buy U.S. Treasury Bills,” says Kevin Rich, CEO of DB Commodity Services in New York. With the T-bills as collateral, the ETF engages in futures trading. If the U.S. dollar falls against an index of six foreign currencies, this bearish ETF will make money from its futures trading.

While such ETFs provide a direct way to profit from a weaker dollar, any profits are likely to be highly taxed. For example, the Rydex currency ETFs are treated like bank accounts, so any gains are taxed at ordinary income rates, not the bargain rates on long-term capital gains.

The PowerShares currency ETFs are taxed like futures contracts, which means that any paper profits are taxed each year-as a mix of long- and short-term gains-even if you haven’t sold your ETF shares. What’s more, those commodity-like tax results are reported on an unfamiliar form (called a K-1) that you or your tax preparer will have to deal with.

In the end, before you purchase such an ETF, ask your financial planner about
the tax implications. The U.S. dollar may be losing ground but you can be sure that the U.S. Internal Revenue Service hasn’t lost its desire to collect every dollar it can.

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