Flat Line Your Exchange: Avoid Risk But Reduce Capitalisation
How does having a flat exchange rate sound? No risk, no capitalisation, and no volatility. This, of course, doesn’t happen. Having a certain currency and being able to draw on that at the same rate, over a certain period, can make your relationship with the currency markets a lot smoother, however. For those who are not familiar with this process, this is a forward contract. Determine a certain amount of currency your business needs, over a certain period, and lock in a rate with your provider.
Businesses with fixed costs and fixed pricing are often the first to investigate forward contacts. As an example, over the last month, we have seen GBPUSD rise from circa 1.35 up to 1.39. A 3% difference on your currency exchange profit and loss.
What can you Do?
Ask yourself these questions:
- What is the rate at which you are no longer making a profit?
- What would you do if the market hits that critical rate?
- If the market is at your budgeted rate, are you going to embrace the chance to lock that in?
Aside from businesses that simply have no certainty over when they need to transact, the useful strategy of hedging provokes a lot of interest from clients. It might surprise you to know, then, that one of the most common statements that we hear about this topic is ‘we don’t do forward contracts; we have been burned by them in the past.’ In the same way in which you can secure a certain rate in the case of negative market moves, if the rate moves favourably for you, you can’t change. Compounded by statements like ‘we don’t plan forward because we like to make the most of the currency exchange market,’ the forward contract often gets a hard time of it. For years, people have discussed the phenomenon of misplaced anger. Like throwing the remote at the T.V after the Euros final, I can’t help but think that forward contracts receive a lot of anger, when they are not to blame.
Assess the Variables
To form some sort of resolution, let’s look at the individual factors of this hedging process:
- A forward contract
- The currency exchange markets
- Your provider
Firstly, a forward contract is simply a tool, and you know what bad workmen do. We can then look at the markets themselves. If you can tell me how to make the markets work for you then cut me in, because I like the thought of early retirement. It comes down to the last two factors; if you got ‘burned’ in the past, it is either because of your provider or your view of currency exchange.
If your provider has not supported you, with analysis and education, throughout the hedging process, this may be the reason you are unhappy. When it comes to the finances of your business, you deserve clarity and understanding. What are you going to get out of this, how does this work, how does this help you and what is the opportunity cost?
Finally, yourself. As the decision maker on currency exchange in your business, are you being realistic about what you hope to achieve during your time in the markets? If you want to be setting forward contracts on the top four trading days of the year, buying low and selling high, reading forecasts with 99% accuracy, and not spending all your time with currency on your mind, you aren’t going to find it. What are forward contracts for then? Perhaps it would be worth reframing the situation. Would you rather lock in a good rate and miss out on unrealised profit if it moves favourably, or would you rather not lock in a rate and become an unprofitable business overnight?
Don’t let your business write-off forward contracts. If there is anything that currency exchange brokerages produce, it is people that can talk about currency exchange all day. The answer to resolve this issue: talk about it. Email or give an expert a call to discuss where the process has gone wrong in the past. They might have the explanation.
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