SME’s:
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SME’s and corporates can use a variety of hedging methods to eliminate or reduce foreign exchange exposure. Companies have varying requirements depending upon factors such as invoice denomination or credit terms. In this article, we will look at two ways to reduce FX exposure. 

Some companies can benefit from a natural hedge as they are paying or receiving the same currencies but it’s unlikely amounts or dates will necessarily align.


1. Focus on FX Forwards

Why use forward contracts?

- Protect your gross margin

- Improvement in visibility

- Ability to fix commercial contracts with your suppliers / clients


So how can a company optimise their payments and FX exposure as part of the above example ?

The company receives EUR from their client and needs to pay out USD at a future date. Hence it faces FX exposure if it doesn’t hedge the Euros. The company enters into a Forward transaction on 28th of March with its FX partner :


Market data:


By using forward contracts companies gain visibility and know in advance their net inflows / outflows :

Advantages

- Buy now, pay later

- Lock in the current exchange rate for a future purchase/receipt

- Hedge your exposure and reduce your risk

- You can draw down to receive your currency early

- You can rollover if you don’t require funds until after the original settlement date


Disadvantages

- If the currency moves in your favour you have missed out on the potential gains.

- potential margin requirements


2. Focus on FX Swap : Illustration

A foreign exchange swap, or FX swap is a simultaneous purchase and sale of identical amounts of one currency for another with two different value dates. An FX swap allows sums of a certain currency to be used to fund charges designated in another currency without acquiring foreign exchange risk. It permits companies, that have funds in different currencies, to manage them efficiently.

Why use swaps?

When there is a maturity mismatch between payables and receivables.



Treasury Position without a Swap

Opening balance 1st of April :

EUR balance : EUR 20,000
USD balance : USD 40,000


Company enters into a swap with its FX partner

Spot 1.0650 (5th of April) —> 1st leg
Forward 1.0668 (10th of May) —> 2nd Leg


Treasury position with Swap

Opening balance 1st of April :

EUR balance : EUR 20,000
USD balance : USD 40,000


This enables the company to pay the EUR invoices and then pay the USD invoices on the due date, avoiding any FX risk.


Advantages

- avoid short term financing through efficient treasury management

- you eliminate FX exposure when the company has inflows and outflows at different dates


Disadvantages

- potential margin requirements


3. Conclusion

Conducting cross-border trade efficiently requires prudent treasury management. Currenxie provides companies with unique tailor-made hedging solutions that traditionally have only been available to large corporates.