Protecting your business from foreign exchange fluctuations

As businesses in the United States have had to adjust to a dynamic interest rate environment and increased geo-political risks, they've had to implement strategies to protect themselves from turbulent economies, both domestic and foreign. Foreign currency exchange rates can fluctuate significantly due to factors such as interest rates, economic data, political unrest, trade flows and more. These fluctuations can translate to unanticipated losses for your business.

For example, if your business executes a contract to sell a product to a company in Germany for 50,000 Euros, and at the time of the deal, a Euro is worth approx. $1.10 USD, your business expects proceeds of $55,000. However, if the exchange rate drops by the time of delivery and payment to $1.04, you'd only net $52,000. Ultimately that foreign exchange fluctuation would cost your business $3,000. And that's just on one small deal.

Obviously, if the exchange rate goes up, your business could potentially benefit, but it's a gamble. Fortunately, there are a number of strategies your organization can implement to reduce the risk of losing money due to fluctuations in foreign currencies.

Deal only in U.S. Dollars

Perhaps the easiest strategy is to only invoice or pay in U.S. dollars, thereby removing any exchange or transactional risk. However, some foreign partners may charge you considerably more if they have to take on the exchange risk themselves. Valley Bank can convert U.S Dollars to international currency and wire the currency to your customers via Valley's Non-Dollar Currency accounts. This enables Valley customers to obtain some of the best market rates when converting currencies.

Open a Foreign Currency Bank Account

Another option is called "matching," where your business opens a foreign bank account and uses foreign currency payments to pay foreign suppliers. Again, this reduces the risks involved with the need to exchange funds. Valley Bank customers can save on the cost and complexity of setting up international accounts by opening Non-Dollar Currency accounts with Valley Bank.

Execute an FX Forward contract

A popular and effective hedging strategy is a foreign exchange forward contract. An FX forward transaction involves the exchange of one currency for another on a specific future settlement date. The rate at which the currencies will be exchanged is agreed upon on the trade date of the FX forward contract. FX forwards definitively quantify the exchange rate at which future payables or receivables will be converted from the foreign currency to the domestic currency.

Execute an FX Forward swap

A foreign exchange swap is appropriate if you need a foreign currency for a short term and then will need to trade back to your base currency. This involves two transactions: the purchase of one currency for another, and then, purchasing back your original currency at an agreed upon point in the future via a foreign exchange contract. A "Window" Forward can also be utilized in this FX strategy. With the "Window FX Forward" strategy, you can draw down the foreign currency based on a predetermined window.

Execute a Cross Currency Interest Rate Swap

A cross-currency interest rate swap is an agreement between two parties to swap the principal and interest payments on a loan made in one currency for payments of equal value in another currency. If your business is taking out a loan in a foreign country, the combination of the loan with a cross-currency interest swap may provide a lower net borrowing rate.

Bottom line: During these economically challenging times, strategies to minimize the impact of foreign currencyfluctuations on your business operations could protect margins and reduce operationalrisk.

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