TOP 3 TIPS TO REDUCE CURRENCY RISK
December 15, 2015…There are countless methods and white papers written on managing currency risk but here are three top tips every business should use as a starting point.
Tip 1: Eliminate The Risk
Currency risk happens over time as exchange rates move. Unfortunately, no-one knows for sure what exchange rates are going to do in the future (if we did none of us would be sat here now looking at these tips).
One thing is certain exchange rates will go up and will go down. For an organisation that needs to pay a currency invoice or is owed foreign currency, you can eliminate the risk as soon as it presents itself. For example, an organisation is invoiced US$50,000 and has 30 days to pay. In November 2015, the GBP/USD exchange rate fluctuated 3.8% – on US$50,000 that is almost a £1,300 variation within that 30-day period (this is the same if you were owed US$50,000).
Pay the invoice immediately upon receipt and eliminate all the risk posed by fluctuating exchange rates.
Tip 2: Book Forward Contracts
Forward contracts are a tool to protect an organisation and reduce currency risk. Put simply it means “buy now, pay later”. By “buying now” you fix the exchange rate for a period of time that provides certainty on how much you need to pay or how much you are going to receive in the future.
In the above example, if you have 30 days to pay a US$50,000 invoice you could fix the exchange rate on day one via a forward contract and pay for the US$50,000 in 30 days time. This approach provides certainty of the amount due in Sterling, reduces strain on cash flow and reduces risk.
Tip 3: Create Hedging Policy
Hedging is the practice of reducing the risk of fluctuating movements in a stock, investment or exchange rate. A forward contract therefore is a method used when hedging currency risk.
If an organisation can forecast their currency purchases or currency receipts, it would be possible to hedge the currency risk by placing a series of forward contracts over 1, 2 and 3 months (possibly longer).
Organisation’s that set budget levels on foreign currency i.e. we need to buy US Dollars at GBP/USD 1.50 or above or sell US Dollars at GBP/USD 1.50 or below can therefore protect themselves via forward contracts when the exchange rates are at or above/ below their costed levels for as many months in advance.
A hedging policy would therefore bring an organisation’s approach to managing currency risk into a documented process and will allow them to review and revise it periodically to increase efficiencies.
Brought to you by SAT FX Online, a preferred Xero add-on partner with NEW superior functionality to make international payments. It locks in better exchange rates with no costs or fees, saves you time, money AND reduces currency risk.
Click here to take the first step to reducing currency risk.
Get SAT FX Online today by visiting www.satfxonline.co.uk
What does Xero UK Managing Director, Gary Turner, think of SAT FX Online? “Integrated tools that make managing payments easier or more affordable are increasingly becoming a front of mind topic for many small businesses, so it’s very encouraging to see the existing integration with the Xero platform go even further with this latest release from SAT FX Online.”