In very simple terms, currency hedging is the act of entering into a financial contract in order to protect against unexpected, expected or anticipated changes in currency exchange rates.
Currency hedging is used by financial investors and businesses to eliminate risks they encounter when conducting business internationally. Hedging can be likened to an insurance policy that limits the impact of foreign exchange risk.
Hedging can be accomplished by purchasing or booking different types of contracts that are designed to achieve specific goals. These goals are based on the level of risk the customer is exposed to and seeking protection from and then allowing them to lock in future rates without affecting, to a great extent, their liquidity.
Hedging can be a very complicated enterprise. The various hedging mechanisms range from basic to extremely intricate. The most prudent first steps, when considering a hedging strategy, would be to take note of potential foreign exchange exposure and, based on that, evaluate what goals need to be set and what actions need to be taken in order to mitigate that risk.
How Does Hedging Work?
Import goods from the UK- convert to USD to GBP when paying invoices.
Set your pricing for the year in advance- based on suppliers input costs and the GBP price at that time.
Calculate exchange rate fluctuations over the course of the year- assess the impact on your margins/profits.
Protect your profit margins by hedging a portion of foreign costs.
Do business with confidence by locking in an exchange rate and improving cash flow.
Foreign exchange derivatives are financial products which may involve risks or loss to your business, and therefore may not be suitable for every business. Engage with a Convera specialist for further information.