Saturday 25 July 2015

The Exchange Rate Conundrum

It’s no secret that exchange rates can be and are volatile.  If you’re a person who’s earning in Pounds, has a reasonable portion of their wealth in Pounds and intends to retire in the UK spending Pounds then exchange rates are probably not going to lose you too much sleep.  Short term volatility might add a couple of hundred pounds to your continental holiday or repress the return on your international equities for a couple of years, where if you've made reasonable plans with a little contingency, is going to be noise in the scheme of things.  Long term volatility could end up resulting in some inflation but your Safe Withdrawal Rate has hopefully accounted for that as well.

Now let’s jump to somebody like myself and I'm sure I'm not along out there.  I'm earning in Pounds, have a reasonable portion of my wealth in Pounds, intend to retire early somewhere in the Mediterranean (still favouring Malta) but want to always give myself a chance of coming back to the UK if it for any reason turns ugly.  From today this is how the plans are unfolding:
1. 12 to 18 months still working for The Man in the UK and earning Pounds
2. Move to Malta (more likely Malta’s smaller island Gozo) and rent for 6 months to be sure I still love the place and know exactly which region I want to live
3. Buy a home for my family
4. Live happily ever after spending Euro’s but with my wealth still set up assuming the UK is home.  Longer term I may start to tilt more towards a European home assumption but that would be very gradual and take many years.

So I'm more heavily exposed to the GBP (Pounds or £’s) to EUR (Euro or €) exchange rate.  The Euro first started on the 01 January 1999 as an accounting currency and the chart below shows its monthly performance up to present day.

GBP to EUR Exchange Rate January 1999 to June 2015
Click to enlarge, GBP to EUR Exchange Rate January 1999 to June 2015 

Even over that relatively short period big swings are evident.  It was at its weakest in October 2000 at 1.6977 and strongest in January 2009 at 1.0863.  The long run average is 1.3756 (the red line on the chart) which isn't far from today’s rate of 1.41287.

For me the living happily ever after bit isn't so much of a concern today and I'm just planning around the long run average plus some contingency by assuming my spending in Euro’s will be about 20% above my UK spending.

What I'm trying to plan around now is how best to prepare for part 3 - buying a home for my family.  Let me demonstrate with my current situation.  I love history and Malta has plenty of it.  At the moment I’m planning on buying an old Farmhouse or House of Character.  Damp and staying warm in winter are concerns with this plan but that’s for another day.  A Farmhouse like the images below and is close to what I currently would like will cost me about €330,000.

Gozo Farmhouse External
Click to enlarge, Gozo Farmhouse External

Gozo Farmhouse Kitchen
Click to enlarge, Gozo Farmhouse Kitchen

On top of that I’ll have Malta Stamp Duty at 3.5% on the first €150,000 followed by 5% on the remaining balance.  I’ll also have some Notary Fees and Registration Fee’s.  I estimate that my €330,000 Farmhouse will actually cost me closer to €348,150.

At today’s exchange rate, which is close to the long run average, €348,150 is going to cost me £246,413.  Now what if the exchange rate reverted to that of January 2009?  All of a sudden I'm up for £320,492 which is an extra £74,079!  Looking at it in another couple of ways it’s a lot more time working for The Man and also many years of annual living expenses.  It’s therefore a critical issue for me.

So the million dollar question is how best can I prepare for this given today I have a lot of Pounds sitting in NS&I Index Linked Savings Certificates and UK Savings Accounts?  I also want this portion of my wealth to be as ‘risk free’ as possible as I’ll need the cash in only about 2 years.  The best idea I've come up with so far is to get a few (stay below the €100,000/£75,000 compensation limit while minimising exposure to the next set of bank implosions which are surely going to result in bank bail-ins) Euro bank accounts set up from here in the UK and average in over the next 12 – 18 months.  Then as soon as I’m in Malta get a Maltese Savings Account and continue to average into that.  As a person who has a broken crystal ball and so has no idea of which direction exchange rates will move I think the negative with this plan is that my interest will effectively drop to zero on this money for the next couple of years although in our current low inflation environment maybe that’s not such a problem.  I’ll also end up paying monthly account fees given my initial internet trawl.  The positive will be that at least for now I’ll lock in some average exchange rates and as time progresses will also start to protect myself from a strong Euro.

Exchange rates are a minefield and can seriously damage your wealth so as always please DYOR.  I certainly have a bit more today before I pull the trigger...


  1. I think that sounds a good idea.

    Averaging the build up of Euro cash in that way should help insulate you from the worst excesses of the process. As you already have the potential shift to Malta on the horizon it is much easier to plan that logically and it reduces the long-term risk of the potential 0% return on that cash. In exchange rate terms, though, I suspect you will make a "return" of sorts.

    It seems a very good plan to me!

    1. Thanks for your thoughts here DD. Will be interesting to see if any readers come up with a better idea than you and I can muster.

  2. Every now and then I persuade myself we should cash in some of our NS&I Index Linked Savings Certificates, and every time I've funked it. They are irreplaceable. The real temptation will be when our current old-style ones expire, because the new-style ones are much inferior. So in your shoes that's probably what I'd do; drift over to euros on the expiry of old-style issues of ILSCs.

    Tell me; are you also going to rebalance your investment portfolio towards eurozone shares?

    1. Very relevant question and worth a more detailed post in the near future. In brief though here is how I'm thinking of playing it:
      - I intend for the foreseeable future to keep my investment home the UK. This means like my current strategy a large portion of my equities and bonds will stay UK focused. Property will also stay circa 50% UK and 50% Europe.
      - With time my Australian Equity 'mistake' will shrink as a percentage of my current portfolio. My intention with this depletion is to shift the percentages into both UK equities and International equities. With time I hope to increase my International equities to 20% from it's current 15% nominal.
      - I don't intend to rebalance towards eurozone equities other than as a percentage of those International equities.

  3. Another question: long term, do you expect to buy National Insurance credits so that you can look forward to a full new-style State Retirement Pension?

    1. As I detailed in my Sequence of Returns Risk post back in May I currently plan to continue to buy Class 3 NI contributions as an insurance policy against my personal wealth depleting due to some sort of 'black swan event'.

      A move to Malta (not possible in Italy or Spain) does however give me a couple of other options here. Just completing a couple of more bits of research and I intend to detail a post on transitioning from working for The Man in the UK to FIRE in Malta which will cover NI expenses.

  4. I had a question a bit like this with my post:

    Overall if I were you I would be trying to accumulate a Euro exposure into a 'real asset' (economics jargon for something which will track inflation - stocks or property are good examples - cash and bonds are not). Parking money in a Euro cash account does not sound sensible to me. But I don't know the correlation between the Euro stock market and the Maltese property market - does anybody?

  5. Most foreign exchange brokers offer forward contracts. They are usually not cheap and require holding deposits. I would only consider them if you have a definite, large exchange to make in the next couple of months.

    With your longer time scale and associated uncertainties, I agree that averaging in like you suggest is the way to go. I don't think you'll need to pay monthly account fees if you hold more than a minimum balance, e.g. look at Santander private bank in Jersey. I guess you might be avoiding these due to the lack of compensation scheme? Jersey does have one with a £50k limit, but not all banks are covered.

  6. If i were you I might want to start buying up Euros now, as with the in/out EU vote potentially being moved earlier, we'll probably see sooner major volatility in the exchange rate. Even though the current rate is close to the long term average, I feel that it is actually a pretty high rate, given how the economies and prices and inflation have panned out over the last few years...

  7. Oh dear - I do think you are putting the cart before the horse and trying to micromanage uncertainty. Your plans are just that - plans.
    So - what may actually happen ?

    When you reach your target FI you think it would be a bit more prudent to work for another year or two - just to be sure your FI is really secure
    You don't know where you want to live - but have sensibly decided for at least a 6 month trial rental. That may end up being 2 or 3 trial rental periods in different countries.
    At the end of the above you may decide to stay in UK after all and buy a property here
    ( with the way you are thinking about putting your money in euro's in case exchange rates move against you - what about buying a house in the UK now in case you do end up staying here and to protect yourself from property price rises in the intervening 3-4 years ? It is just about as logical as your euro's ideas.
    What you describe sound like YOUR plans now - presumably there will be some buy in from your family at present - but what will their thoughts be in 2,3 or 4 years time ? They might have quite different ideas - and different to the ideas they are expressing now.
    Where may your children want to live when they leave home.? If in UK -will you be happy living in Gozo with them working and having a family in UK - flights are not cheap to Malta .
    And - if you really do end up in Gozo you will want to do some sailing . So - give yourself a break and start doing some sailing now, get a Yachtmasters Certificate - you may even end up deciding to live on a boat and sail wherever you want. I can recommend ( or ) as a way of introducing yourself to " big boat " sailing . Have some fun NOW.

  8. Now is all there is after all.

    RIT - this is an excellent blog but if you are predicting £246,413 as your cost I think you may have control issues!

    I have been thinking about the national v international balance quite a bit recently and exchange rates have obviously come into this. My conclusions are

    a) one can't manage it so don't try(the FTSE 100 is full of foreign earnings, for example)

    b) keep ones minimal risk assets in £ (or home currency) so it is there when you need it and

    c) weight equities by world market cap - Vanguard FTSE All World, or similar, and take the thinking out of it.

  9. You seem pretty set on Malta RIT and I am sure you will have done lots of research but personally, I would take it one step at a time.

    Step 1 - get to FI, maybe 18m away and make the decision to leave your well paid job.

    Step 2 - spend your 6m renting on Gozo - at the end of this period....

    Step 3 - make a decision with your family whether you want to move there on a more long term basis and buy a property.

    I honestly can't see the wisdom in shovelling hard-earned cash into euro accounts at this stage.

    Just my two penn'orth looking at the situation dispassionately.

  10. RIT, presumably you've considered asking your employer for 6 months unpaid leave when the time comes? Just as insurance.

  11. @RIT, Wow ! I think you are over planning and trying to optimize every variable. In those famous words of John Lennon "Life is what happens to you when your making other plans". Take it one step at a time. Leave your portfolio as it is. Simply rent in Malta for 12 months and see how it goes. Giving up your job and moving to Malta is a major change in life as it is. Remember, not long ago you were fixated on moving to Australia and even had your portfolio skewed to that continent. Regards, Jon

  12. Of any interest?

  13. I do wonder how the revolutionary and bold step of moving to a foreign land meets the conservatism and micromanagement of the current regime. From the outside looking in there seems to be a scary looking contradiction waiting to happen down the road

  14. Couldn't agree more with Stringvest, all this endless planning, it's exhausting. I actually face this dilemma currently, living FI (this seems a faintly ludicrous phrase to me) with assets in the UK and living costs in euros in mainland Europe where I live. I did what the other poster suggested not doing by "parking euros in a bank account". I did this as the important thing is now, and at the moment it seems a good rate, why worry about what could happen when you have no control over it anyway.

    In my opinion you seem to be wasting your most valuable asset of all, time, with utter abandon, on this endless micromanaging of insignificant details. Life is not lived vicariously through spreadsheets. Give yourself (and your family by the sounds of it) a break and go live life now, it's too perilously short and precious to fritter away like this.

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