Whether paying the expenses of a satellite office in Europe or purchasing goods in Asia for sale in Nebraska, currency volatility impacts the bottom line.
Not a believer? Check the news. Business page headlines have been replete with stories of companies missing their earnings targets because they’re facing unforeseen costs associated with currency rates. Luxury fashion label Burberry, wholesaler Costco and insurer AIG are all recent examples of companies impacted by currency markets. According to a study by FiREapps last year, this kind of exposure collectively cost multinationals US$4bn in one quarter alone.
The movements made by currencies can be attributed to a number of reasons. They include global unrest, central bank decisions, inflation, public debt, and the national economy’s performance. Instituting a currency exchange strategy is crucial for hedging risks and protecting profit, regardless of company size.
To begin this process, it’s important for treasurers and other financial professionals to select an experienced foreign exchange (FX) broker to be their currency strategy architect. There are many factors to consider, so working with a professional that has experience of building plans for companies of all sizes will save time and money, even for those individuals who intend to manage the plan themselves.
When searching for the best FX strategist, it’s prudent to avoid securing one at a bank. Banks can add anywhere from 3% to 10% to the current exchange rate and charge additional wire fees ranging from $100 to $125 or more depending on the institution. If the company is only transferring $1500, then a $150 bank fee doesn’t seem all that bad. However, for any business with a million dollar payroll, those ‘drop in the bucket’ fees can add up to hundreds of thousands of dollars.
Building a Strategy
Independent, specialised FX providers can offer treasury departments a leg up using advanced technology. Additionally, they can offer expertise that will help financial professionals to navigate the rough waters of the global markets for a fraction of the cost that banks would charge. These exchange professionals are solely focused on the currency markets and advise their clients daily on the best strategies to implement for their companies.
Once you’ve identified your currency specialist, let them be the architect of your currency strategy. Currency exchange is like a maths problem, having many different factors to consider before calculating final costs. Trade volume, market volatility and the currencies at play all contribute to the final tally.
Upon looking at a company’s cash flow history and projections, along with the currencies they’re planning on interacting with, the strategist will construct a plan that can minimise vulnerability and optimise currency trades.
When treasurers are building a strategy, the topics to be discussed with their strategist include:
- Forwards: Although many hear about hedging investment portfolios, fewer know that they can also hedge their currency trades against volatility. By securing favorable rates for a future exchange, companies can protect revenues.
- Dollar cost averaging: Many companies enjoy a dollar cost averaging strategy, where they hedge a percentage of their future exposure with a forward contract and leave the remaining percentage open to take advantage of potentially favourable market movements. This provides protection against full exposure to any adverse market conditions against the business, while still allowing for upside potential.
- Orders: If a company knows that it will be required to exchange funds in advance, placing an order can be a very handy proactive tool that aims to maximise a favourable rate of exchange. By utilising the many different types of orders available (limit, stop loss, optimal cycle ordering (OCO), etc.) along with a provider with technical expertise, companies can position themselves to ‘have the market come to them’ rather than chasing the market while battling a time deadline.
- Portfolio balancing: If the company works in enough diverse currencies, normal market fluctuations may already balance its currency conversions. To optimally take advantage of this position, be sure to time your conversions internally.
- Exchange planning: When trading multiple currencies, be sure to balance the net effects of exchanges. As an example, when trading from currency one to currency two consider transferring to currency three directly to avoid repeat fees.
People who think to the future often prepare themselves and their families for worst case scenarios. That’s why they purchase insurance as protection against natural and man-made disasters, car accidents, and other unforeseen circumstances that could cause significant financial pain. Your company is no different. As corporates become steadily more exposed to a global economy, consider the cost savings for your business that can be achieved once a currency strategy is implemented.
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