What if I Don't Have a Foreign Exchange Risk Management Policy?

A foreign exchange risk management policy

Xe Corporate

November 23, 2018 6 min read

In the previous chapter/article in this series, we quantified its potential currency market exposures. The next step for a business should be to set out a plan for managing this risk. Larger businesses in particular could consider a risk management policy that details the company’s approach to foreign exchange risk – this will give you an ongoing framework for managing volatility, so that you don’t have to react on an ad hoc basis.

The nature and detail of your policy will depend on the magnitude of the risk
your business faces. A company with, say, £1 million turnover is naturally going to be much more concerned about a potential £200,000 net foreign exchange exposure than a business with the same risk but £10 million of sales. In other words, context is critical here.

Nevertheless, all risk management policies should cover some basics. They will set out parameters detailing how much foreign exchange risk the business is prepared to accept and over what time periods. They will detail the tools that the company is
prepared to use in order to mitigate these risks. They will also specify who at the business is authorized to make decisions.

The aim should be to develop a robust process for managing currency risk on an ongoing basis, in a format that can be shared amongst a group of people rather than devolving all responsibility to a single person. This needs to be a collective policy, widely understood, that the company can apply at all times and that is not abandoned because a key person leaves or is off sick. Your foreign exchange risk
management policy also needs to be updated regularly – at least once a year, say.

Inevitably, your business will evolve over time, as may the nature of the risks it faces. As your exposure to particular overseas markets rises or falls, or as the outlook for currency markets changes, so your policy needs to be adjusted accordingly. But be careful to make strategic planning decisions, rather than falling into the trap of attempting to respond tactically to day-to-day developments. Any business that isn’t sure how to develop a risk management policy, or what might be appropriate for such a document, should review options with a foreign exchange specialist.

“Many businesses are not aware they have an exposure to foreign exchange risk. If you’re in that position, it is more than likely that the impact of currency market volatility on your business may come as a nasty shock.”

Any business that isn’t sure how to develop a risk management policy, or what might be appropriate for such a document, should review options with a foreign exchange specialist.

Maintaining a Balanced Portfolio

Don't Focus Exclusively on Exchange Rates

For any business that needs to choose a foreign exchange service, for day-to-day
transactions or for more strategic planning over time, the exchange rates
it offers are the obvious place to look. Why wouldn’t you choose the provider
that offers the best possible rate for your money?

The answer is that while exchange rates are important, they aren't the only factor that will have an impact on your business’s exposure to currency risk. Moreover,
businesses that spend all their time focused narrowly on watching rates may miss the bigger picture.

Start from the healthily skeptical view that if something is too good to be true,
it usually is. If you’re offered a stand-out exchange rate by a currency transfer provider, are you missing out on strategic benefits like enhanced security or better, more personalized customer service?

That might be the level of service your business requires, for example, or basic support services – how quickly will your provider intervene if a payment goes wrong?

It’s also important to understand that rate comparisons can be misleading.
Foreign exchange markets move so quickly that unless you’re comparing
rates at a given moment, you may not be comparing like with like. A provider
that looks competitive now compared to the rate you were offered by one of
its rivals two hours ago may not really be so attractive.

Currency Exchange Rates are Fleeting, Quality of Service Endures
It certainly makes sense to shop around – too many businesses accept the sub-standard services offered by their FX provider just because they’ve never looked elsewhere – but do so on the basis of value rather than price. Ensure you have clarity on:

  • What do you need from your foreign exchange service beyond the lowest rates?

  • Are the rates quoted to you open and transparent?

Do that you always have a clear view of what you’re paying, after service charges? In practice, foreign exchange providers offer all sorts of additional value.

You may need, say, an online service tailored to your business’s specific needs, with authorization from different people for different types of transaction. You may need the fastest possible service to ensure your payment windows are longer.

Equally, foreign exchange services can watch the currency markets for you. If your business is pre-occupied with trying to time its foreign exchange transactions to get the best rate possible, look for a service that offers rate alerts – notification that the rate has hit a particular level – or market orders – where your transaction automatically goes in at that price.

In the next article in this series, we'll review some of XE's "secret menu" services which can safeguard your business from currency market volatility over the long term.

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