Navigating the ups and downs of the Foreign Exchange market
Forecasts and predictions about where exchange rates are headed in the next month, quarter or year are a worthless tool for you when planning your budgets and or finance strategy. Controversial? Maybe. You’re probably as baffled by the banks major predictions as I am, yet you may be required as part of your job/role or for personal reasons, to make a guesstimate on future exchange rates based on what is now a very wide set of forecasts with no general consensus. You would be just as well to gaze into a crystal ball or follow your favourite fortune cookie.
Let’s have a look at the latest set of bank predictions:
Look at 6 months time…GBPEUR ranges from 1.00 (parity) to 1.22, and GBPUSD from 1.15-1.28 These are big variations. So which to choose? The danger is you veer towards the one which fits your narrative. You could of course take the average, or perhaps read into why Bank X predicts what they do and see if you agree with their analysts. Spoiler alert…everyone is guessing…and no one guesses consistently right that they would be the one to follow. So what can you do to mitigate what looks to be a bumpy ride going forward?
Because we know predictions are seldom right, the FX market created a way of exchanging currencies that enables buyers or sellers of a currency to fix the exchange rate for a specific date in the future. This is called a “Forward trade” Simply put a “Forward” is an agreement to exchange a certain amount of currency for another at a fixed exchange rate on a specific date in the future – it could be a week ahead or up to a couple of years. By fixing the price now the parties involved are effectively locking in the exchange rate for a future transaction.
The exchange rate that we agree is not some guesstimate by the banks. The price is based on the current market price with an adjustment which represents the interest rate differential between the two currencies involved. For example: A client has an order for goods that’s due for payment in 90 days’ time – say for Euro 100,000 The GBPEUR exchange rate now is 1.1500 which makes it affordable/within budget and preserves the profit margin. If the market were to go to 1.10 in 3 months time it would become less profitable, erasing the profit margin as the Euros would cost much more. (Likewise if it went to 1.20 it would become cheaper and more profitable). The FD isn’t in the business of FX speculation…but is keen to ensure at the current price the profit margin is maintained and the shipment affordable, budgeted for and fits in with the cash flow model. Most of all the FD doesn’t want to speculate where the rate might be in 3 months time and find that the profit has been eroded. They look at forecasts – but what to do? It looks like it could go either way. To remove the risk and bring certainty they book a Forward trade. Fixing the rate now for 3 months time at a rate they know they can afford. At the moment the underlying Central Banks interest rates of the two currencies are nearly the same – GBP 0.1% and EUR 0.0% So the difference between now and what we can fix for 3 months time is very little; its 16 pips of the current price; so if the current price is 1.1500 our fixed price for 3 months time is 1.1484 Regardless of where the market goes over the next 3 months the client knows they have Euro 100,000 fixed at 1.1486. No nasty surprises when they come to settling the invoice.
So regardless of forecasts, or how cloudy the crystal ball we are able to smooth out the rises and falls of the market by utilising things like Forward trades. These types of hedging strategies and variations on them are what FX brokers like HampdenFX can talk you through so that you can create some certainty over any forthcoming exposure in what will be a volatile year within the FX markets.
HampdenFX is a boutique foreign exchange service, enabling you or your clients to exchange currencies at more competitive exchange rates than they can acquire themselves.
Individuals and Smaller businesses/Advisors typically receive uncompetitive exchange rates due to the irregularity of trades and relative deal size. HampdenFX removes this unfairness and enables its clients to access exchange rates that are the preserve of the markets biggest participants.
Whether you are an Individual or a Corporate, we offer the most competitive exchange rates, regardless of deal size. Our sole focus is providing our clients with a secure, efficient and hassle free foreign exchange and global payments service at a fraction of the costs usually incurred.
If you would like to learn more about our services and the preferential rates available to Seymour Taylor clients please go to www.hampdenfx.co.uk
Or contact Ben Stephens on DD: 0207 863 6662