HEDGING AND CURRENCY MARKETS: WHAT'S THE FUSS
A good case study on how currency markets can impact on Australian organisations is the story of Red Ant.
In 2008 the Australian dollar crashed against major currencies around the world – losing as much as 37 per cent of its value over a period of a few months to the US dollar, and 20 per cent of its value to the Euro.
In 2009, this climate claimed Red Ant, a distributor of video game software from overseas. In January it appointed Deloitte Touche as its receiver.
Red Ant failed to hedge against the Euro in time to protect itself against that 20 per cent drop, and the subsequent losses that the distributor made on sales would be catastrophic for any low-margin business model.
There are a number of ways that importer organisations can protect themselves – or hedge – against that kind of currency devaluation, and while analysts might not expect a repeat performance in the near term, it is nevertheless something to have in the back of the mind as a just-in-case.
One hedging technique is forward FX contracts. In simple terms, a forward FX contract is a deal to exchange currencies at an agreed date in the future, at a rate agreed on in the present. It is a technique that banks can provide quotes on for almost any currency pair and are calculated from spot value dates and in turn calculated out of the transaction date. FX forwards can usually be taken for maturities from three days to two years.
The other option is the put option. Here, a buyer acquires a short position by purchasing the right to sell the underlying instrument to the seller of the option for a specified price during a specified period of time. Essentially it provides a guaranteed price for an investment, and offers insurance against excessive loss (the dollar starts to slide.)
However, there are problems with these hedging techniques. Often they’re acquired for a premium, and if you are running a low-margin business, there might not be room for those premiums.
Which then raises the question of whether you engage in almost a loss-leading exercise in importing and reselling the technology to protect yourself against currency devaluation and attempt to make the money back on services?
Express Data managing director, Ross Cochrane, put it best in his warning to companies considering becoming involved in the field: “I think the key is for only those businesses that specifically have expertise in foreign exchange management should get involved in buying anything other than Aussie dollars.
“If it’s not your core competency, get a price in Aussie dollars so it’s taken out of the equation for you.”
It’ll mean things will get difficult if the dollar does go south, but especially for the smaller organisations that don’t have staff versed in international markets, for all by the most extreme circumstances, it’s ultimately safer than any hedging technique.