The Ukraine crisis has led to a surge in FX volatility following the strict economic sanctions placed on Russia from countries around the world, increasing the need for strong currency risk management for corporates to protect their bottom line, according to experts.
“In such times managing your currency exposure is paramount in the here and now but it also highlights the importance of formulating a strategy in advance to protect yourself against adverse currency movement,” says Reece Dye, head of corporate clients at Clear Treasury.
“It’s looking increasingly unlikely that the events in Ukraine will de-escalate any time soon, and should that be the case, businesses should be fully prepared for the volatility to remain. […] Being alert to any favourable spikes in the market is critical and has the ability to minimise the impact on a business’s financials,” he says.
However, the recent spike in volatility is no different from any other economic crisis, explains Wolfgang Koester, chief evangelist at Kyriba.
“Significant currency movements in response to geopolitical crises are not new. While CFOs cannot anticipate market volatility, they can prepare for it by understanding how vulnerable their balance sheets and income statements are to currency risk. Currency volatility can be proactively managed.”
Moreover, the “calm” currency markets of the latter part of last year should have been a “warning sign” of the high volatility to come, he says.
Multinational companies based in North America and Europe had $11.98bn in total impacts to earnings from currency volatility in Q3 of 2021 compared to $27.87bn in Q2, according to a recent Kyriba report.
“Currency markets are cyclical so while current events may not have been predictable, the fact that volatility would occur was a realistic probability,” says Koester.
“Last year was an opportunity [for corporates] to ensure they understood the potential impact currency movements would have on their revenue and earnings so they could make adjustments to prepare for a period of more extreme volatility.”
Black Swan events and risk management
The biggest risk in the current climate is geopolitical uncertainty, explains Dye.
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“Geopolitical uncertainty has caused the supply chain issues which ultimately affects market sentiment,” he says.
“Even in these early stages of the Ukraine conflict, the US dollar has appreciated over three percent against the pound. Whilst the move may not seem that significant, if businesses are already working on tight operating margins as a result of the pandemic, companies could soon see profit margins erode.”
However, using hedging in a “black swan” market may be less effective due to the sanctions placed upon Russia, says Helen Kane, CEO of Hedge Trackers.
“While hedges are excellent tools for protecting corporates from normal risks in normal times, there have been some startling reactions in the marketplace to settling outstanding ruble hedges.”
For example, a bank had to close out a client’s onshore ruble trades with its correspondent bank because it was on the sanctions list, explains Kane.
“I believe it is time for finance leaders to have a full picture of the impact on their Ukraine and Russian business activity together with a realistic expectation of what contracts are at risk, what payments will be received.”
Corporates need to be transparent with their investors about those findings, adds Kane.
At the same time, businesses should be more conscious than ever of the importance of forecasting and implementing a suitable strategy with regards to currency, says Dye.
“Understanding your cost price is imperative. Cost price doesn’t just relate to buying or selling goods; it should also be related to international payroll for example. Businesses should have an accurate figure of what they expect European salaries to cost in pounds in the coming financial year.”
Once this is understood, businesses can start to safeguard from adverse market movements through the use of financial instruments, he adds.