How to manage currency risk?

Author: Marcin Serafin, Head of the Customers Transactions Sub-unit at the Treasury Department, Bank Millennium

For a dozen of years now, Polish meat industry, in particular poultry sector, has been in the up-trend with average annual growth of 7-8%. It has been driven by the growing demand, not only on the domestic market but first of all increasingly higher dynamics of export production. Analyses and reports of the European Commission have demonstrated that in the upcoming 10 years, poultry production and consumption in Europe will increase significantly. It is a very good sign for the Polish producers who thanks to the excellent reputation of the Polish poultry stand a chance to increase the dynamics of their export sales.

When combined with decreasing meat imports, such prospects mean that the Polish meat sector is and will be very exposed to the FX risk. It holds true in particular for companies whose operating margin fluctuates within a few percentage points. In order to stand up to these challenges, entrepreneurs increasingly more often use banking services supporting FX risk management. Majority of banks enable conclusion of such transaction in e-channels. Using these channels, companies perform currency transactions (including forwards) with access to the prices directly from the inter-bank market, even for small nominals (from 1000 EUR). Thus, companies operating on the international markets may react to the changing situation on the on-going basis, selling and buying currencies on their own at competitive terms.

Operation of electronic transaction platforms is based on very simple principles. Entrepreneur may on his own, at any place and time, without intermediation of a bank’s dealer, buy or sell currencies, conclude FX hedge transactions etc. Conclusion of online transactions simplifies and shortens transaction times, gives full control over transaction flows as well as company’s currency position and offers market transaction prices, even for small nominals.

In the poultry sector the most popular are forward transactions. An alternative product, which supplements the most popular forward transactions are currency options. Their structure is similar to classic insurance, where the buyer of insurance policy pays premium in exchange for protection against incidence. It works in similar fashion in case of options – option buyer pays a non-returnable option premium thus getting protection against unfavourable fluctuations of FX rate.

The difference between currency options and forwards is the asymmetric distribution of rights and duties – option buyer purchases only the right which he will or not use. In case of forwards both sides to the transaction are obliged to settle it irrespective of the FX fluctuations in the future. The most important driver behind the appeal of currency options is their price and the current market quotations have reached the level of their record lows of 2008.