Page 25 - Logistics News - March_April 2023
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CURRENCY RISK
Foreign exchange contracts (FECs) – are used to The option holder (buyer) can therefore choose the better
hedge exposures to exchange rate fluctuations by ‘locking exchange rate – either the prevailing rate in the market at
in’ future foreign exchange rates. FECs are contractual the time or the price specified in the option contract. There
agreements between the bank and its clients to exchange a are two main types of option contracts, namely call options
specified amount of one foreign currency for another at a and put options – these can be used in various combinations
predetermined exchange rate on a specified future date. There to provide structured solutions to meet a client’s hedging
are various types of FECs that can be used depending on the requirements. While currency derivatives provide greater
client’s requirements: flexibility as a hedging instrument, they also have a cost
• A fixed FEC can be used only on a specified maturity date. in the form of a premium that is payable at the time of
• A partly optional FEC can be used within a prespecified purchasing the option contract.With a call option, the buyer
period between two future dates. has the right, but not the obligation, to buy the underlying
• A fully optional FEC can be used at any time between the currency at a fixed exchange rate on a predetermined future
date of establishing the FEC and the specified maturity date. date.
Swaps – a swap is the simultaneous purchase and sale of Currency futures – or a CFs contract is an agreement
identical amounts of one foreign currency for another, but on that gives the buyer the right to buy and sell an underlying
two different value dates, either spot against a forward date or currency at a fixed exchange rate at a specified date in the
one forward date against another forward date. future. One party to the agreement agrees to buy the CF
contract at a specified exchange rate and the other agrees
Early receipt (or pre-take up) – swaps are used to bring to sell it at the expiry date. The underlying instrument of
forward the maturity date of an existing FEC. a CFs contract is the rate of exchange between one unit of
foreign currency and the South African rand. Contracts are
Extension (or rollover) – swaps are used to extend the cash settled in ZAR and no physical delivery of the foreign
maturity date of an existing FEC to a later date. currency takes place. CF contracts are traded on the South
African JSE and have margin requirements that the client
Long-dated forwards – are FECs with a maturity date must provide.
longer than 12 months forward.
The impact of foreign exchange risk will influence the
Currency derivatives – can also be used to hedge preferred sources of funding for a South African company
exposure to exchange rate fluctuations, but are fundamentally trading in global markets. When the performance of the
different from FECs. Whereas the parties to an FEC are locked company is negatively affected by consumer behaviour
into a future transaction in a forward contract, the buyer of an and the ability of the organisation to reprice its goods in a L O GI S T I CS NEWS
option contract has the right, but not the obligation, to buy or volatile forex market, it is worthwhile to determine whether
sell a fixed amount of currency at a fixed exchange rate on a the company has economic foreign exchange risk that is
predetermined date in the future. embedded in its service and goods. •
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