In today's highly volatile foreign exchange market, companies must be strategic to ensure that their foreign exchange (forex) programs are running as efficiently as possible. With many factors affecting forex exposure, from interest rate movements to political instability, currency volatility and uncertainty show no signs of settling down. Join us as we uncover how CFOs in APAC can implement successful forex risk management strategies to gain stability in an uncertain environment.
Volatile Markets Cause Financial Headaches
Recent challenges in the currency market mean companies are entering into a new era of currency risk in the marketplace. According to Kyriba's May 2023 Currency Impact Report, last year was the worst year for overall corporate impacts due to foreign exchange. With the Fed intervening to combat inflation and a strong U.S. dollar, companies tackled a demanding environment in 2022.
In this constantly changing landscape, treasury teams faced increasing challenges. When the Fed increased its activity in the markets, hedging costs almost doubled overnight, causing a lot of headaches for finance and treasury leaders who questioned how they would explain these results to boards, CFOs and CEOs. Sharp currency movements, combined with overall market volatility, revealed how even small inefficiencies in multi-currency accounting processes showed up in big ways. At the same time, changing interest rate environments adversely impacted hedging costs.
As a result, finance teams had multiple complexities to juggle. They had to spend more time identifying and explaining forex impacts, such as rapidly increasing hedging costs and forex results that differed significantly from expectations. Simultaneously, they had to rethink exposure aggregation and definition processes as well as explore additional methods to reduce hedging volume and cost.
In 2023, instability continued, creating a lot of challenges. Even with the softening of the U.S. dollar, navigating the uncertainty of currency risk in a dynamic interest rate environment is a theme that CFOs are going to be dealing with for years to come because the volatility is here, and it's going to stay in place until we get through this cycle of interventions by the Fed. This means that in order to stay ahead of not only the dynamic markets but also their competition, APAC CFOs need to develop a comprehensive strategy to manage forex exposure.
Preparing the Path to Forex Exposure Management:
Embarking on a journey to enhance forex exposure management, it is essential for financial leaders to carefully assess and optimize their strategies. Companies operating in diverse currencies can benefit from a thoughtful approach to hedging programs.
An initial critical step involves a thorough evaluation of the existing forex exposure management framework. Identifying potential concerns, such as the absence of a centralized ERP system, varied accounting platforms across regions which affected the accuracy of foreign currency exposure data, reliance on error-prone spreadsheets for data compilation, and manual execution of forex trades, allows for a targeted and strategic response.
Aligning subsidiaries with a unified ERP system can significantly improve operational efficiency, streamline processes, and enhance data management. Transitioning from daily to monthly rate assessments can facilitate easier administration and systematic remeasurement, contributing to a more robust forex exposure management system.
Another fundamental aspect of optimizing forex exposure management is ensuring the accuracy and clarity of financial data. Implementing tools like Kyriba FX can aid in uncovering various financial issues, including accounting, processing and clearing issues and phantom balances, paving the way for a comprehensive data cleanup. This involves not only identifying and resolving existing problems but also training personnel to input accurate accounting information.
Recognizing the critical role of accurate data in driving exposure management, financial leaders are encouraged to invest in proper tools and reports. These tools should enable insightful analysis to identify key areas for building effective forex risk management strategies.
Limiting Forex Exposure Risk:
Having gained clarity on data and recognizing the inherent unpredictability of foreign exchange markets, CFOs can start adopting internal strategies to mitigate risks and reduce hedging costs. Some of these strategies could be:
- Settling intercompany balances reduces forex exposure and can contribute to reducing the cost of hedging by mitigating volatility, even though this approach is not classified as a hedging strategy.
- Establishing an FX Risk Committee composed of the treasury's forex partners fosters a collaborative approach to reviewing and improving forex exposure programs. Periodic committee meetings provide a platform to enhance results and address potential areas for improvement.
- Developing monthly regional forecasts for various financial elements, including cash, accounts receivable, accounts payable, intercompany, and accrued balances, aids in validating forecasts and identifying areas requiring additional support. This forecasting process is facilitated through tools like Kyriba.
- Implementing a mid-month "true-up" process involves comparing forecast-to-actual figures and making adjustments to hedges as necessary, ensuring alignment with the evolving economic changes.
- Setting a tolerance level, such as a monthly forecast-to-actual accuracy range of 90% to 110% and requiring entities falling outside this range to prepare a variance report contributes to accountability and precision in forecasting.
- Recording monthly forecasting accuracy results on a scorecard provides a transparent performance overview, fostering accountability among entities. These scorecards can be shared with relevant stakeholders for comprehensive evaluation.
- Seeking natural offsets through the movement of cash balances and the introduction of short-term intercompany loans represents a proactive approach to reducing risk in forex exposure and costs of hedging.
- Treating long-term loans as quasi-capital injections introduces an effective mechanism for capping exposure, adding a layer of risk control to financial strategies.
Beyond the implementation of internal controls, financial teams are advised to:
- Anticipate worst-case scenarios that might be encountered in a hedging program and prepare comprehensively for such situations.
- Continuously strive to enhance hedging programs, recognizing that forex exposure management is an ongoing and iterative process.
- Utilize pictorial tools for clear visualization of exposures, prioritizing areas to address and currencies to focus on. The Monthly Rolling FX Impact chart, as highlighted by financial experts, can be particularly effective in presenting forex results with and without the hedging program, resonating well with executives.
Thriving Amidst Uncertainty:
In today's landscape, the key to success lies in a multifaceted strategy that encompasses agility, precision in data management, and a proactive stance toward risk reduction. It is crucial for organizations to adopt a forward-thinking approach that combines the latest advancements in financial technology with strategic decision-making. The role of cutting-edge tools, exemplified by solutions like Kyriba, becomes paramount in empowering CFOs and Treasurers to not only understand but also effectively control currency risk.
Furthermore, a proactive approach to risk reduction involves continuous monitoring, assessment, and adjustment of financial strategies. Companies that embrace this mindset position themselves to not only weather the storm of uncertainty but also seize opportunities that may arise in volatile markets, especially in a dynamic region like APAC. By staying ahead of market fluctuations and leveraging technology-driven tools, CFOs can optimize hedging costs and, in turn, bolster their organization's ability to manage forex exposure with resilience. In essence, the ability to thrive amidst uncertainty hinges on a dynamic synergy between human acumen and technological prowess. Financial professionals equipped with sophisticated tools can steer their organizations through the intricate currents of global markets, ensuring adaptability, resilience, and sustained success even in the face of unpredictability.