Hedging against $US income

[skc]

I have a friend starting a business in engineering services and will be earning his fee income in $US over the next 12 months or so. He is, however, concerned about the potential currency risk (i.e. $US falling against $A and others). He's also got people working for him from the UK, so he needs to hedge the pound cross rates as well.

Can anyone provide some info on how to put in place the currency hedges?
- Who are the providers?
- How much do they cost? Application? Interests? Deposits?
- Is there a minimum amount requirement? The total sum is not huge, probably ~$US100K or so being paid monthly for 12 months. Needless to say people working for him would like to be paid monthly in their local currency.

Thanks

 

[prawn_86]

Few different options.

Could enter into a hedge with a counter party. This would be specifically tailored, but may be hard to find good/acceptable terms or a willing party.

Use futures or currency options is another way.

Or simply deposit the amount in an account like Oanda and hope the fluctuations go the right way...

 

[skc]

Few different options.

Could enter into a hedge with a counter party. This would be specifically tailored, but may be hard to find good/acceptable terms or a willing party.

Use futures or currency options is another way.

Or simply deposit the amount in an account like Oanda and hope the fluctuations go the right way...

Thanks Prawn. I understand all these, but what I was more interested in the practical stuff, like who are the counter party? Do commerical banks provide them? How much do they charge? Is the amount too small for a tailored hedging policy etc.

Taking the currency risk is not really an option, given the small scale of his operation. A wrong move can send his company broke.

 

[prawn_86]

Ahh ok. Sorry but im not able to help with those sort of in depth details

Has he talked to the banks? I would just give a few a call and ask if they have a forex dept

Anyone else know about this?

 

[Jeff Worboys]

There are a few ways to go here.
The easiest example is where there is a fixed amount in the future that you are excepting to either come in to Australia or leaving Australia. You can either use a FRA Forward Rate Agreement or FX currency pair ie buy or sell one currency against the other. Both of these are OTC or Over the Counter products and therefore have a higher degree of counter party risk than FX Futures. (Exchange Traded). If you wish to go down this path of the FRA.... most major banks run trade finance desks which can arrange, or alternatively do can call an FX broker. Remember there is no such thing as perfect hedge, however you can sometimes get pretty close.

 

[Nick Radge]

Does he want to hedge it forward? or month to month? Is it a firm amount over the next 12-months or unknown?

 

[juw177]

A thread for hedging against $AUD income will be more appropriate considering USD is one of the safest and AUD is among the riskiest currencies. If the USD was to collapse, interest rates will sky rocket. Since we have almost $2 trillion foreign debt, the AUD will also collapse as we struggle to pay it off in USD.

 

[skc]

Does he want to hedge it forward? or month to month? Is it a firm amount over the next 12-months or unknown?

It is very much a known amount over the next 12 months. As monthly income is known in $US and monthly expenses are also mostly known in $A and GBP amounts, I believe some providers out there will be able to tailor the arrangement as per these cash flows. I have contacted a Big 4 trade finance desk but they are slow in responding...

A thread for hedging against $AUD income will be more appropriate considering USD is one of the safest and AUD is among the riskiest currencies. If the USD was to collapse, interest rates will sky rocket. Since we have almost $2 trillion foreign debt, the AUD will also collapse as we struggle to pay it off in USD.

Not sure I agree with you, but it's irrelevant in this instance. The business is just trying to make sure it is not exposed to any currency movements, and not trying to speculate which way the currency will go. I guess hedging $AUD income only makes sense if you have foreign currency expense...

 

[freddy2]

Depending on the profit margin the other option is not to hedge. If small fluctuations in currency are going to make or break the business definately hedge. However if fluctuations make the difference between earning a lot or just a little, I personally wouldn't hedge - the transaction costs are too high and in the long run (many years) currency fluctuations will even out. But then again I have a higher risk tolerance than most people.

 

[Nick Radge]

I doubt banks will be bothered about the amount you're talking about for an OTC product. They may be able to, but the costs would be pretty high. Perhaps contact some of the better names FX brokers, such as MF Global. They may be able to offer some advice.

An alternate is opening an account with a broker such as Interactive Brokers using a US$ base currency. Have the US$ funds paid into that account each month then convert to A$ as each month goes by. When the 12 months is complete, convert the base currency to A$ then have the funds paid out from Citibank Sydney. This will allow various degree's of hedges to be built, say 50% for example if you're friend didn't want to go the whole amount.

Forward hedging is slightly more complicated and your friend must be comfortable locking the currency in at these levels for 12-months. Remember that a hedge is not a money making exercise.

I would highly recommend your friend get some proper advice. Try the FX desk at MF Global as a starter.

A thread for hedging against $AUD income will be more appropriate considering USD is one of the safest and AUD is among the riskiest currencies. If the USD was to collapse, interest rates will sky rocket. Since we have almost $2 trillion foreign debt, the AUD will also collapse as we struggle to pay it off in USD.

No point hedging A$ income if you spend it domestically, unless you intend to spend it all on foreign goods.

This email may contain advice that has been prepared by Reef Capital Coaching ABN 24 092 309 978 (“RCC”) and is general advice and does not take account of your objectives, financial situation or needs. Before acting on this general advice you should therefore consider the appropriateness of the advice having regard to your situation. We recommend you obtain financial, legal and taxation advice before making any financial investment decision.

 

[Stormin_Norman]

https://www.internationalmoneytransfers.com.au/personalfx.asp

try them.

 

[skc]

Depending on the profit margin the other option is not to hedge. If small fluctuations in currency are going to make or break the business definately hedge. However if fluctuations make the difference between earning a lot or just a little, I personally wouldn't hedge - the transaction costs are too high and in the long run (many years) currency fluctuations will even out. But then again I have a higher risk tolerance than most people.

The model suggests that ~1% fall in $US against $AUD and $GBP (assuming this happens at the start of the 12 month) will result in ~$30K reduction in profit. So definitely worth hedging considering how much movement there can be in Fx these days.

An alternate is opening an account with a broker such as Interactive Brokers using a US$ base currency. Have the US$ funds paid into that account each month then convert to A$ as each month goes by. When the 12 months is complete, convert the base currency to A$ then have the funds paid out from Citibank Sydney. This will allow various degree's of hedges to be built, say 50% for example if you're friend didn't want to go the whole amount.

May be I am not reading your post correctly, but this doesn't sound like hedging. This is just converting your money each month at the prevailing exchange rate.

Forward hedging is slightly more complicated and your friend must be comfortable locking the currency in at these levels for 12-months. Remember that a hedge is not a money making exercise.

Perfectly understand that - the firm is in the business of engineering services, not FX speculation. It was never meant to be a profit making exercise. Just wanted to make sure the costs in doing so was not prohibitory.

Thanks for all the responses and discussion anyway.