Managing currency risk for a business can be challenging. There are multiple factors which can impact a company’s exposure to currency risk and impact their profitability. Taking the necessary steps to ensure your business is prepared for economic and political turbulence is invaluable.
In this article, we will be discussing the potential currency risks to your business and how to manage this. Additionally, we shall be listing FX tools which can enable your business to get ahead of the curve and respond to market conditions.
What contributes towards currency risk for your business?
Exchange rate fluctuations
Exchange rate fluctuations have an impact on business rates and transactions within countries. Since this can be caused by external factors such as supply and demand of goods and services within an economy, it can be difficult for businesses to predict in advance. As a result, it’s beneficial for businesses to create a financial forecast which will help to protect their bottom line.
A currency’s supply and demand are tied to a number of intertwined factors. These include the country’s monetary policy, inflation, as well as political and economic conditions. A high demand for a currency or a shortage in its supply will cause an increase in the currency price for example. Political events such as Brexit have a big effect on exchange rates and market conditions also.
Increased costs for imports & exports
With importing and exporting goods internationally, there is always a risk of currency fluctuations within markets. Price sensitivity is common within import and export and a failure to plan ahead can cause fluctuations to impact a company’s profit margin. As a result, having trade relationships with a range of suppliers who are willing to have some flexibility with extending payment dates can be beneficial.
When it comes to physical products, there is a time lag between making business decisions and seeing the effects of those decisions on the company’s bank account. During that time lapse, overseas orders are negotiated with materials and goods shipped internationally.
A country’s inflation and interest rates heavily influence its economy. If the inflation rate gets too high, the central bank may counteract the problem by raising the interest rate. This encourages people to stop spending and instead save their money. With raising inflation continuing to be an issue in European countries and the U.S, this has had a continuous impact on currency fluctuations.
Inflation has hampered economic growth and been a significant factor in the current cost of living crisis. This has seen energy bills, food and fuel prices rise over the past 6-9 months for households within a number of countries internationally.
Companies would have also seen their costs rise due to inflation. This would have been the case through increased costs for importing goods or labour costs. Consequently, lowering costs in some capacity would have been an essential factor to protect profit margins for businesses.
Political turbulence or unrest within a country can have a negative effect on exchange rates. This is due to the unpredictability and uncertainty it will create within the global markets. Additionally, political events can have an indirect impact on an economy and their market competitiveness.
For example, during the U.S election in 2020 there was currency volatility for the US Dollar. We also saw currency fluctuation take place during the recent French Presidential elections in 2022. A victory for the right wing National Rally party would have caused turbulence within the EU and devalued the Euro currency. With international trade amongst major countries taking place on a huge scale, political shocks do have an impact on exchange rates.
The most recent political event which undoubtedly will cause currency fluctuation for Pound sterling (GBP) is the confirmed resignation of Prime Minister, Boris Johnson. With a new Prime Minister being inducted in Autumn 2022, there could be an introduction of new policies or legislation on businesses for example. Being prepared for potential legislation change will help your business navigate through economic shifts or uncertainty down the line.
How to protect your business against financial uncertainty
Create a risk management strategy
Businesses that make regular international money transfers will benefit from creating a foreign exchange strategy for their international payments.
Forward contracts, options and market orders are examples of foreign exchange solutions that a business will use to make regular international payments. These payments could be to overseas suppliers, for settling invoices from international clients or making regular international payroll payments to overseas staff.
Protect your profit margins and minimise costs
Being able to protect your profit margins and lower costs is a great benefit for businesses. As it’s very difficult to predict currency fluctuations, it can be advised to pre-plan payments, especially for large company investments.
One advantage of pre-planning is being able to budget for unexpected events or circumstances which could cause greater currency risk. Additionally, pre-planning is essential when moving into a new market or location to expand your business operations. Being aware of economic and political challenges within a new market can help to manage your costs proactively.
What FX tools can be used to limit currency risk?
Currency risk is an important consideration for businesses, especially those dealing in international trade. Exchange rates can change rapidly and usually foreign importers will prefer to pay in their own currency. As a result, you may not receive the payment you expected, especially if it’s necessary to wait for payment.
In these cases, you can use a forward contract to hedge this risk, enabling you to protect your expected profits. A forward contract is arranged so that you can receive the exact amount you budgeted. This is the case no matter what direction the rates will go at the time of payment.
Alternatively, market orders could be another good option for your business, depending on your needs. Market orders are a perfect currency risk management tool which enables you to automatically book your trade when your desired rate is reached. A market order is used to target an exchange rate in the coming days or weeks rather than making an immediate transfer. This contract can be useful if there isn’t the necessity of making a direct payment.
How CurrencyTransfer can help you manage your money transfers
Here at CurrencyTransfer we ensure that businesses can optimise their money transfers in advance. Our dedicated relationship management team has expertise to assist with your business account. We offer FX tools which provide businesses the ability to transfer money both quickly and conveniently. When purchasing and paying for importing goods we can assist with your transfer payments.
Once you open an account, keeping your money secure for international transfers is our top priority. We ensure you receive a tailored client experience and aim to support you in all of your business needs.