Foreign exchange risk management
Ups and downs in the currency market can affect your import payments and export receipts. Here are some products you can use to minimise your risk.
Spot foreign exchange
This is simply an agreement to buy or sell one currency in exchange for another. You settle the contract immediately, at a price based on the current exchange rate ('spot').
Forward Foreign Exchange Contracts
Known as FECs, these let you set an exchange rate that you can use for foreign currency requirements on a specific future date. So whatever happens to the exchange rate you’ll know your income or cost in New Zealand dollars.
Pros
- With a known exchange rate you can budget and plan ahead
- The expiry of the FEC can match the cash flow of the transaction
Cons
- You can’t take advantage of better rates
- These are fixed price obligations, so if a transaction doesn’t happen or production fails, you could lose when settling your FECs
Foreign currency options
These protect you if the exchange rate moves in the wrong direction over a specified time, but also let you get the benefits if the exchange rate moves in your favour.
Pros
- You can take advantage of better rates
- You have a known worst-case rate that applies to the transaction
- You only pay the premium expense whether you exercise the option or not, which is useful if you’re uncertain whether the transaction will happen or if production could fail
- The expiry of the option can match the cash flow of the transaction
Cons
- You need to pay a premium up front