Profit From the Falling Dollar

U.S. investors can't seem to catch a break. Stocks are sliding, real estate prices have fallen sharply, and even the once-mighty dollar has dropped to unprecedented low levels against many foreign currencies over the past several years.

Some investors, however, have turned lemons into lemonade. By finding investments whose returns are tied to the dollar's fall, they've turned a prudent hedge into an unexpected windfall.

20% from a bank CD?
The dollar's slide encouraged financial institutions to create new products that would benefit from strength in foreign currencies. For instance, Everbank offers bank CDs whose returns are tied to the performance of certain currencies against the U.S. dollar. For instance, a one-year CD based on the Australian dollar currently pays 5.25%. A similar CD using New Zealand's dollar to measure returns pays more than 6%. That's well above the current U.S. average of 3.06%.

But on top of higher rates, those who chose Everbank foreign-currency CDs have gotten a big boost in their returns from the falling dollar. With the U.S. dollar down 14% against the New Zealand currency and more than 15% versus the Australian dollar, an investment in Everbank CDs last year would have yielded around a 20% return.

ETFs charge in
Another product that lets investors profit from the falling dollar comes from the ETF world. CurrencyShares ETFs essentially act like a foreign savings account, with which you buy shares that represent a certain amount of foreign currency. For instance, each share of the CurrencyShares Euro Trust (NYSE: FXE) equates to holding 100 euro. In addition to moving in response to currency fluctuations, many of the CurrencyShares ETFs pay monthly dividends.

As you'd expect, the falling dollar has led to strong returns from these ETFs:

ETF	1-Year Market Return
Euro Trust	22.27%
Yen Trust (NYSE: FXY)	19.78%
Australian Dollar Trust (NYSE: FXA)	21.69%
Swiss Franc Trust (NYSE: FXF)	23.48%
Canadian Dollar Trust (NYSE: FXC)	22.05%

Source: Morningstar.

What goes down ...
Of course, you can't count on these currency-based investments to continue performing as well as they have recently. The U.S. dollar will rise again, eventually. On the other hand, many market analysts have for years been predicting a halt in the dollar's drop, yet the dollar has continued to fall.

Perhaps the most important thing for investors to realize is that just as you can earn 20% or more from currency-based investments, you can easily end up losing money from them. Even though Everbank's CDs are federally insured, they don't protect your principal from losses if the dollar rises sharply.

In addition, even though their returns have beaten the stock market recently, these investments aren't stocks. Over time, if currency fluctuations stabilize, the interest you'll earn will probably be relatively low compared with historical stock returns. To combine stock-like returns with the diversification of foreign currency exposure, multinational stocks such as Royal Dutch Shell (NYSE: RDS-B) and Cemex (NYSE: CX) also give the potential for growth.

For the more conservative part of your portfolio, however, diversifying your savings into foreign currencies isn't necessarily a bad idea. Keep in mind, however, that you've already missed out on a big run in the currency markets -- and if the dollar's fortunes turn around, you'll lose money.