How to Manage Currency Exchange Risk During COVID-19
No matter what temporary state the world foreign exchange market is currently in, it’s always important to try and manage currency exchange risk whenever you can. This statement especially holds true in scenarios like the COVID-19 pandemic, which impacts the market on a global scale.
Companies and individuals alike have always been subject to foreign currency market trends; both in terms of the highs and the lows, yet very few exchange users take proactive steps to mitigate their risk exposure. In most cases, foreign exchange users wishfully assume that their currency exchange practices are as good as they can be, but the truth is there is much room for improvement.
MANAGING FOREIGN EXCHANGE RISK: THE IMPACT OF COVID-19
With the COVID-19 situation sending currency exchange rates into highly volatile and unpredictable swings, now is a great time to solidify your currency exchange strategy. There’s no time like the present to learn what factors affect your currency exchange affordability and what you can do about it.
What happens if I don’t care about currency exchange risk?
In the simplest terms possible you will lose money – or more accurately – pay more than you need to on foreign exchange services. You shouldn’t classify the savings gained from a better exchange rate immediately as negligible. Furthermore, if you’re always booking money transfers in a state of uncertainty you’ll never truly know if the deals you get are good. This can have noticeable implications in your personal finances and business health.
Naturally, there are certain factors related to the world economy that you can’t control such as politics, interest rates, and trade negotiations which all affect currency values. However, with that said there are plenty of lower-scale measures that you’re able to take in the aim of improved risk management.
While we don’t advocate trying to “time the market” (picking your entry point based on loose assumptions) for the best money transfer opportunities, completely neglecting all forms of currency exchange risk management can lead to:
- Unnecessary financial stress
- Overpaying for currency exchange
- Improper budgeting
WHAT STEPS CAN I TAKE TO ACTIVELY LOWER MY CURRENCY EXCHANGE RISK?
Here are a few measures that you could implement whenever you’re exchanging currency to lower your risk exposure to a wildly fluctuating COVID-19 driven FX market. Please note that all of the advice below should be treated as informational only – none of it is substitute for professional/expert advice that is tailored for your unique financial situation.
Keep an eye on the markets
Quite possibly the most straightforward action that you could take advantage of on this list is the first one mentioned. In plain English, “keeping an eye on the market” means to check currency values diligently and often. This includes frequently monitoring and comparing exchange rates from one source to another to ensure that you’re getting a deal that best suits your needs.
By no means will this action completely remove any risk related to currency exchange, but it’s a great place to start and you’ll learn more about market uptrends and downtrends in the process.
Forward currency exchange contracts (FX forwards)
At its most basic definition, a forward contract is an agreement to exchange currency at an exchange rate that is different than the one today, on a day in the future. If currency exchange rates are highly volatile, this strategy has the potential to payout fantastically. However, because a forward contract is a locked-in sale, you are obligated to provide the payment on the agreed upon date regardless of the circumstances. This means that you may end up paying a worse exchange rate than the spot rate on the day, but you can still use this contract if you’re worried about a specific currency’s ability to hold value.
Currency exchange options (FX options)
The main difference between an options and a forward contract in the financial setting is that options don’t involve an obligation to pay. In other words, you’re given the opportunity to exercise at an agreed upon rate – guaranteed – but you don’t have to go through with it. FX options are very useful in this regard because if the rate makes an unexpected change you aren’t forced to exercise the conditions of the option.
The downside with options is that you pay a premium to acquire the “right” to a future exchange rate. And if the option expires worthless you lose money because you’ve sunk it on the premium. As this is a more niche service, check to see if your foreign exchange provider offers FX options.
FINAL THOUGHTS: Lowering Your Currency Exchange Risk Uncertainty
While it’s not necessarily to use all three of the aforementioned tools in this guide, leveraging one or more can certainly help remove some uncertainty when booking your currency exchange. We highly recommend reading more about these strategies by doing your own research as a supplement.
Reducing your currency exchange risk is vital during the COVID-19 pandemic if you’re worried about your finances or you need to run a lean business operation. Doing so successfully can lead to:
- An easier time budgeting for the future
- An increase in your flexibility in terms of exchange rate strike prices
- A greater depth of predictability to your exchanges