The volatility of emerging market (EM) currencies this year, in current-account deficit nations, in particular, has reinforced the allure – and challenge – of FX management for corporations.
Traditionally speaking, a large number of corporates have been able to hedge FX risk with non-deliverable forwards, even in countries where there are exchange controls.
According to David Blair, an independent treasury consultant based in Singapore, the recent EM sell-off suggests treasurers should look for more ways to hedge and investigate options offshore.
“Switching sales to hard currency can backfire in devaluations because currency risk can mutate into credit risk,” he says.
“This focus will be on financial and cash risks, and customer credit analysis is also a must. But I have seen solvent and thriving customers turn into bad or late debts when their central bank did not have sufficient hard currency to execute the import payments the customer instructed.”
Treasurers tend to be inherently conservative when it comes to managing EM volatility, a trend exacerbated by the lean nature of many treasury operations, says Jiro Okochi, CEO of treasury and risk-management solutions provider Reval.
He adds that it is asking a lot for members of a small US-based team to work through the night to hedge currencies that are more effectively hedged during Asian business hours.
“Although volatility is part of the risk of doing business in emerging markets, treasurers can do more by pushing for greater standardization and automation,” he says. “Malaysia, for example, has a government-led campaign to create regional treasury centres to compete with Singapore and Hong Kong, and that has already driven better practices.”
Okochi says companies are now looking for banks that can handle global cash pooling – where a company combines credit and debit positions across multiple accounts in different currencies – in EMs.
“One of the financial institutions that has invested in this area is Standard Chartered, but it is surprising that some of the other large banks do not have this capability,” he says.
On the subject of whether regional treasury centres make it easier for companies to manage currency volatility, Okochi accepts that being closer to the market means access to better information and improved relationships with local banks, especially for companies with relatively large exposures to EMs.
“Other companies will take the view that their investors are aware of their presence in emerging markets and understand the potential downsides,” he says. “These companies will, of course, closely monitor risk factors, but there is an acknowledgement that if they cannot accept a degree of risk, they shouldn’t be in these markets.”
Blair agrees that although prices on eFX platforms will be consistent globally – subject to out-of-time-zone liquidity constraints – the qualitative factor makes a regional presence valuable.
“Banks’ London branches can and do quote many emerging-market currencies, but they are a side show,” he says. “In Singapore, Asian currencies are centre stage, so the quality and immediacy of the information and opinions are richer.”
Daniel Blumen, partner at treasury management consultancy Treasury Alliance Group, observes that policies are set by corporate treasury and executed in relatively few locations, so while delegating authority on trading of specific currencies to a local centre might improve execution, it would require diligent controls to make sure things did not get out of hand.
“Adding a regional treasury centre where the primary rationale is trading adds quite a level of cost,” he says. “That said, one of the unintended consequences of recent regulatory initiatives [Basel III and EMIR] may be to incentivize the use of regional centres to avoid potential issues around internal trading of inter-affiliate swaps in the derivatives market.”
He concludes that while the increased availability of information on volatility contributes to the need of some treasurers to be seen to be “doing something”, there are no new tools to employ.
“The traditional methods – borrowing in local currency and managing working capital – are still effective, and counterparties offer new flavours of these tools. Where a traditional hedge is available, it is often at a price that most will not accept.”