Currency hedging is a minefield really, some say you’re damned if you do and you’re damned if you don’t. But, almost weekly there is an article in the financial press about a business that would have made money if it wasn’t for “adverse currency moves”.
Currency hedging is all about protecting yourself or your business from when exchange rates move against you. This could be for anything from when you are buying a Villa in Italy and you want to lock in the current exchange rate for when you have to pay for it in a years time. Or if you are a business, making sure that your foreign profit margins are not wiped out by income payments being devalued because of these “adverse currency moves” (cough cough Heineken from today).
But, whatever way you look at it, currency hedging is, and always will be essential.
The most common form of managing currency exposure (other than burying your head in the sand and ignoring it) is to use a currency forward. With currency forwards, you essentially, buy now, but pay later at today’s exchange rate.
So, if the exchange rate moves against you, you don’t have to pay more, or receive less than you would at the time of the deal. However, the downside is that if the currency moves in your favour you are committed to that exchange rate and as such don’t profit from the beneficial move.
The old adage applies here:
“It’s very hard to speculate on FX to make money, but very easy to hedge and protect yourself from losing it”.
Another method is currency options. But, options are generally overlooked by SMEs and individuals are they seem too complicated with ridiculous jargon and strategies. Plus if you’re not careful, (as commercial currency hedging advice is largely unregulated) you can get stuffed into Butterflies, Iron Condors, strangles and straddles or even multi-legged (sometimes into the hundreds) strategies by overzealous advisory currency options brokers.
Now though, Assure Hedge is trying to simplify OTC FX options by offering a platform where you can just buy a single FX option online. You pay your premium, and if the market goes your way, great, you’ve locked in a good exchange rate. If not, you lose your premium but are not committed to the conversion, as you would be with a currency forward.
Here we hear from Barry McCarthy, CEO, and Founder of Assure Hedge about what they do, who they do it for and why they do it…
What is assure hedge and how does it differ from existing currency hedging platforms?
Assure Hedge has developed a scalable FX hedging front end that automates the selling of Foreign Exchange Options, providing instant automated quotes, priced by the customer themselves.
The idea came from when I was trading the financial markets. I noticed the need in the market for FX Options and how difficult they were to attain for a regular company. I felt they were almost deliberately too complicated, hard to attain and archaic in their execution. It was here Assure Hedge was born. The original idea along with the skilful development from the technical team within Assure Hedge accumulated in the automated pricing and purchasing software released to the market.
This use of technology ensures fewer costs, less personnel and fewer mistakes being made by the business. The suitability and appropriateness of Assure Hedge reduce the possibility of mis-selling of Foreign Exchange Options, which has been a point of contention for the regulators in the past. Assure Hedge specialises in price clarity, efficiency in and digitisation of forex hedging solutions to protect companies against any adverse movements of currency.
Unlike other competitors Assure Hedge have elected to Focus on Currency Options as we believe they can provide the best value for our customers, as well as bringing a previously unattainable hedging tool to SMEs. Currently, via competitors or traditional financial institutions, receiving a quote for an Option is a tedious and time-consuming process for a business or an intermediary, involving several phone calls and an onboarding process lasting many weeks. What differentiates our solution is that Assure Hedge removes all this hassle by empowering everyone to hedge their currency risk, not just major businesses. Quotes can be received instantly by simply inputting the currencies being sent or received, the amount to be hedged and the timeframe of the hedge.
What would you say are the main advantages of using Options to hedge currency exposure over Forward contracts?
Currency Options and Forwards both have upsides and use cases where one suits more than the other. Thus the advantages are dependant on one’s current situation and requirements. However, if you are to view them in a general overview we see three main benefits. If I am to outline three main distinctions they would be as follows:
1). Crucially, With Options, you are not obligated to exercise your position. I.E. when you agree on a currency rate for a future date if you have taken out a Forward you are obliged to transfer at this rate, irrespective of any other external scenarios. Essentially you are locked into this deal. Options offer more flexibility and allow you a choice at a later date as to wheater you wish to make a transfer at the agreed upon rate or not. Choice in times of market volatility is valuable as uncertainty dictates that you don’t know where rates will move to, thus are covered in either outcome.
2). Protected against downside risk and can make a profit on any favourable rate movements. With Options, you pay the protection cost in advance, vs a deposit for a Forward. Inherently this helps your budgeting as you have paid for the service ahead of time and know the exact minimum which you can possibly receive. Even if, in some instances, this ends up as initially more expensive than a Forward, in the long run the ability to forecast and Budget accurately is essential. There is also the ability to make an upside gain as you can trade at market value when the rates move in your favour, i.e. the opposite way to which you have protected against.
3). Further flexibility. With Options, you can execute at any point during the duration which you have selected. This means that although you may have selected an Option for e.g.3 months in duration, you can choose to exercise this at any point once the protection cost is paid. Additional flexibility can prove to be massively beneficial to a constricted Forward.
One of the main issues with options is that unless you have a background in finance they can seem quite complicated. How easy have you found it to educate clients on the benefits of options as a hedging tool?
By bringing the entire process from start to finish online, this has benefited the speed of learning for end users as the Assure Hedge in house team can run through shared screen demos in 5-10 mins to explain the product, the technology and how to use the Assure Hedge platform.
There are many comparisons, metaphors and examples we can use when explaining Assure Hedge which greatly aids the understanding of the FX Options. People understand the need to buy and sell foreign currency, thus understand why having higher or lower rates is beneficial in certain scenarios. It has taken us a number of months to perfect the education process but by designing marketing collateral and refining our explanations based on extracting a user’s prior knowledge, we are able to quickly provide them with the best information to guide them from their previous level of understanding to one which equips them as ready to utilise the Assure Hedge product offering. In effect, we have varying levels of material we can share with a user depending on their prior level of understanding. Feedback from these education sessions has been widely positive.
At the end of 2018, we devised a Hedgeucation section to the website. Specifically aimed at teaching new users about Foreign exchange terminology and methods in which to protect rates.
As a point of reference for us, we show people these sections on our site, as well as talk them through Assure Hedge’s platform. The combination of these has accelerated individuals learning.
Although limited, buying options is not without risk. What do you think are the main disadvantages to be mindful of when using options for hedging currency exposure?
The main disadvantage in an Option for a user is a sunk protection cost. If one understands in advance that they are paying for a service to protect against any downside movements of currency then they will understand that redeeming a protection premium isn’t always possible.
Another, less serious consequence, is sunk time. Users are naturally busy people and sinking resources into using Hedging tools for smaller companies may only yield smaller advantages in the long run. Likewise, allocating resources to learn and understand about a service then decide against using it may also be considered a risk for a user. This is something we looked to mitigate early on by bringing the entire process online a customer can attain and execute and Option without ever having to talk to someone, unless they wish to do so.
From Assure Hedge’s point of view, we are not carrying any risk, as via our automated solution we are offsetting this immediately against the market as soon as a quote comes in. Any imminent movements in rates are priced into the protection premium. It is this ability, via our regulation, that allows Assure Hedge to provide a risk-free solution to our clients.
And finally, for anyone out there needing currency hedging services. What top three online resources would you recommend becoming more informed about the process?
- We would recommend that all users prior to taking out an option with us first check our Hedgucation section of our website as previously mentioned, then book an online demo with one our in-house experts who can guide you through the platform step by step answer questions you may have along the way and showing you how to execute a trade.
- For quick, simple, short videos and explanation text Investopedia is a definite go to. Although they won’t teach you how to use any particular service, nor how to set up any accounts, they definitely help in providing simple examples and definitions to aid understanding. Investopedia is every finance student’s best friend!
- FX Academy has some very useful resources, videos and online tutorials to follow. If you have more time and wish to dedicate further resources to gain a deeper understanding in the currency markets and how to actually trade, along with the benefits of doing so, FX Academy is an essential resource. Both FX Academy and Investopedia are 3rd party to, and have no affiliation with Assure Hedge.
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Richard started the Good Broker Guide in 2015 and has been a broker for 20 years most recently at Investors Intelligence and previously a multi-asset derivatives broker at MF Global (Man Financial). Richard started his career working as a private client stockbroker at Walker Crips and Phillip Securities (now King and Shaxson) after interning on the NYMEX oil trading floor in New York and London IPE in 2001 & 2000.