Management of operational currency risk, Risk distribution...

Managing operational currency risk

The scheme for managing foreign exchange operational risks in a company generally includes the following stages:

• identification (identification) of the risk faced by the company;

• Measurement of the level of identified types of risk;

• how to minimize the corresponding risk.

In most cases, the risks classified and ranked by their potential value can be minimized using common techniques such as:

• Risk sharing between project participants (transfer of part, or total risk to co-authors);

• diversification of foreign exchange investments;

• obtaining additional information for decision making;

• reservation of funds to cover unforeseen expenses (losses);

• insurance (hedging) of the risk.

Risk Distribution

The usual practice of risk sharing is to reconcile the risk of the main party to the transaction and the participant in the project who is able to better calculate and control this type of risk. An illustration of this method in the conditions of an international company can be, for example, export factoring, which is the transfer of the right to claim the trade debts of a factoring company, which, for a fee, assumes the collection of debt obligations and guarantees the successful completion of the operation. A factoring company may, in this case, early repay a significant share (up to 90%) of the total value of invoices to the exporter.

Thus, factoring:

• Ensures elimination of exchange rate risk for the exporter;

• allows you to reduce the costs of managing receivables, which is especially interesting for small and medium-sized companies that do not have a specialized department for managing foreign exchange resources;

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• Beneficial to companies that have problems with cash flow, as it turns buy-sell with a deferred payment and associated currency risks into cash transactions;

• allows you to get an accurate view of financial revenues, which facilitates the forecasting of cash flow.

In addition, it should be noted that factoring companies also offer additional information services on foreign exchange regulation and import trade rules in different countries.

Diversification

Diversification remains one of the most effective risk management techniques.

In general, diversification means the distribution of funds invested by an international company between various unrelated objects of capital investment.

In particular, the basic strategy of diversification of currency risks is reduced to a justified increase in the range of currencies in which the company realizes its foreign economic relations with foreign counterparties. At the same time, it should strive to increase the amount of assets denominated in currencies whose exchange rate (relative to the domestic currency) is projected to increase and decrease the amount of assets denominated in currencies whose exchange rate (relative to the domestic currency) is projected to decline.

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