In a fast-moving global economy with suppliers, clients, and subsidiaries in many locations, FX risk usually stems from a massive number of very small transactions performed on a daily basis. If we also consider that prices are becoming more dynamic, this means that for companies that are updating prices in foreign currencies on a daily basis, managing FX risk is a burden.
Let’s take the example of online travel agencies (OTAs). They need to calculate prices in foreign currencies to display on their websites on a daily basis, but they also have thousands of payables and receivables in foreign currencies linked to each client. Until recently, most OTAs were hedging in bulk, calculating or estimating their FX exposure and buying hedging products once per week or month. It was the only way to manage risk without involving a lot of time and effort from the treasury team.
Banks have been set up to execute large FX deals, where traders can leverage their balance sheet and play with their trading book to generate profits. Over a long period of time, clients had to adapt to that set-up and became used to trading in bulk - not because it was adapted to their real needs, but because it was the only efficient way to trade with treasury teams in banks.
The emergence of automated micro/mass solutions, like Kantox’s Dynamic Hedging, is fundamentally changing the way transactional FX risk is managed. The beauty of a straight-through processing (STP) hedging solution is that it doesn’t cost more time or money to hedge each microtransaction, than it does to hedge in bulk. It’s about replacing people with machines that manage the FX workflow and execute trades 24 hours a day, six days a week.
Micro-hedging solutions have proved that the impact of transactional FX risk on a company’s P&L can be reduced to almost zero, which allows the treasury team to focus on more value-added tasks. When markets become volatile, and particularly when important geopolitical or economic events occur, having an automated hedging solution that can react in real time makes all the difference.
I recall that on the day of the Brexit referendum results, clients that were already using an automated hedging solution arrived at their offices with their risk fully under control, since their hedges were executed during the night. Meanwhile, others were panicking, trying to estimate their FX exposure and hedge in bulk as soon as possible – all as the market continued to fall. One of them confessed to me that they lost close to EUR 2m.
FX has long been considered by corporates as a burden to be managed. Very few have understood that it is a tremendous opportunity with which to increase revenue, market share and profit margin.
At Kantox, we say that currencies are like languages. If you speak the language of your clients, it is easier to sell to them. If you speak the language of your suppliers, it is easier to get good terms. In other words, corporates should always buy and sell in local currencies. The challenge for some of them is that this generates exposure in many currency pairs, something which is very difficult to manage without automated micro-hedging solutions.
The next frontier is around price-setting in foreign currencies. Many companies of all sizes are still calculating prices in foreign currencies once per day. They’re using the available exchange rate from the ECB or at any online financial portal, while exchange rates are changing several times a second. This dynamism creates an opportunity for businesses to outprice competitors by updating prices at the right moment.
In industries that are price driven, and where products are non-differentiated, being able to offer the lowest price is extremely important to get a sale. Many companies still believe that price competitiveness implies lower margin, constant focus on expenses reduction, or a more efficient value chain. What they usually miss is that there are additional points of competitiveness linked to the exchange rate they use to price.