• gillesvigneau

5 simple ideas to improve your foreign exchange risk management

Economies around the world continue to be affected by events in Ukraine and the sanctions imposed on Russia. These significant events' future evolution and impact are simply impossible to predict [1]. The current high volatility of currencies is a reflection of these events.

The geopolitical context weighs heavily on the European and global economies. It has weakened the euro, but perhaps not as much as one might expect. The US dollar, a safe haven currency, has strengthened, while the Japanese yen has been somewhat held back by low-interest rates despite its status as a secondary safe haven. The pound sterling has weakened significantly against the US dollar while currencies that benefit from commodities such as the Australian and Canadian dollars have strengthened.

While higher oil prices have given the Canadian dollar a boost, these recent gains highlight the potential for volatility and the impact of many different factors on the relative strength of currencies. If oil prices were to fall now, we would also see a regression of gains for the Canadian dollar.

Similarly, the US dollar has benefited greatly from its status as a reserve currency since the beginning of the war. However, it is also prone to volatility. Being the default safe haven in times of uncertainty means it will be blown away by developments surrounding peace talks and sanctions. If the markets decide that the Ukrainian conflict is resolved, then the dollar could fall. Similarly, when events in Ukraine escalate, investors opt for the security of the US dollar, which strengthens it.

In this context, central banks have only one objective (hope): to control inflation without causing a (great) recession. Central banks around the world are raising interest rates but at a slower pace than in the past. The record levels of debt accumulated by the [2] public sectors of individual governments during years of very low-interest rates support this reluctance to raise rates too quickly. Also, what will be the effect on individuals who will have higher loan repayment amounts in a period of rising energy prices and high inflation? If central banks act too slowly, inflation could take root, while too fast and aggressive action on rates could hamper economic growth. Will they be able to find the balance?

This increased uncertainty is certainly very worrying and, in addition, we no longer wonder "if" but rather when will there be a next event of the "black swan" type?

If your business is exposed to currency risk, it's never been more vital to empower you to be proactive when it comes to risk management. Geopolitical events and currency movements are impossible to predict, your company's currency exposure, however, is under your control.

In this context, it is more important than ever to ensure that your companies have an appropriate risk mitigation and monitoring strategy in place to avoid unforeseen costs and support your performance. Here are five very simple ideas to improve your currency risk management program to suffer less strongly the effects of the next "international shock".

1. Clearly define responsibilities i.e. Authorize

The treasurer (or controller) must know the limits (tolerated losses) within which he is expected to manage foreign exchange risk and has adequate tools to execute within the framework of a policy accepted by the company's management. More importantly, he must feel supported by the latter to act quickly when required. Be prepared!

2. Capitalize on information i.e. Know [3]

The controller must be able to make strategic decisions about profitability by having access to relevant information at the right time and have the ability to process it through a clear and fast process. This simple process involves all departments that can remove/add foreign exchange risk (sale, purchase, production, etc.). It aims to rapidly synchronize the company's foreign exchange position with its operating cycle.

3. Look for simple improvements i.e. Act

Simple improvements can have a big impact. For example, saving certain data faster in systems, facilitating the collection of information by defining who is the supplier, format, frequency etc. Recent movements in currencies show us that a delay of a few days can be very expensive.

4. Periodically re-evaluate your strategies i.e. Evolve

Take a step back and ask yourself questions such as: Are we taking advantage of all internal coverage measures? Is the cost of our coverage in line with our potential losses? How big is our residual (unmanaged) risk? Have our recent actions brought the expected results? How do we know if we are on or undercover? How far from the neutral point are we?

5. Success factors i.e. giving yourself the means [4]

Identify success factors and give yourself the means to bring them to life within the organization by measuring them regularly. Having the right mix of expertise, information, tools and clear processes allows you to reap the full benefit of foreign exchange risk management.

[1]These articles published in the context of the Covid crisis offer you actions to take quickly in a context of crisis. They remain relevant to the war in Ukraine. Actions to be taken quickly, and, Omicron, inflation and political uncertainty (...), and Resilience in Times of Crisis: Asking the Right Questions. [2] It's not just the economy that's growing, but uncertainty too!

[3] When do you hedge your currency risk? [4] Foreign exchange risk management: a lever to achieve your international objectives


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