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FX Sales & Hedging and Financial Solutions
September 2010
FX Hedging Products
!! FX Forwards
"!Regular Forward
"!Non-Deliverable Forwards (NDF)
!! Swaps
"!FX Swaps
!! Currency Options
"!Plain Vanilla
!! Puts
!! Calls
FX Sales & Hedging and Financial Solutions
September 2010
!! Locking-in FX prices for settlement at a future date.
!! FWD rate is the FV of the Spot rate given current spot prices and interest rates.
!! The FX FWD Rate IS NOT an FX Forecast or Projection
Two Types: !!Regular Forward
!!Non-deliverable Forward
FX Forwards
FX Sales & Hedging and Financial Solutions
September 2010
Regular Fwd vs. NDF
Regular Fwd !! Deal date
"!Agree on a fwd rate
!! Maturity
"!Actual exchange of principal amounts.
!! Suitable if cashflows are readily and accurately determinable.
NDF !! Deal date
"!Agree on a fwd rate
!! Maturity
"! Net Settlement of cash flows
"! Difference between pre-agreed FWD rate vs. Fixing Rate
!! Suitable if cashflows are not readily determinable
!! Provides cashflow and pricing flexibility
FX Sales & Hedging and Financial Solutions
September 2010
Pricing Mechanics for FWDs &
NDFs
!!General Formula:
"!FWD Rate = Spot Rate + Swap Points
"!Swap Points = Spot Rate x IRD x (tenor/360)
"!IRD = Domestic Int. Rate – Foreign Int. Rate
FX Sales & Hedging and Financial Solutions
September 2010
!!Example:
"!Spot Rate: 45.00
"!Php Int. Rate: 4.0%
"!USD Int. Rate: 0.25%
"!Tenor: 30 days
Pricing Mechanics for FWDs &
NDFs
FX Sales & Hedging and Financial Solutions
September 2010
!! IRD = 4.0% - 0.25%
= 3.75%
!!Swap Points = 45.00 x 3.75% x (30/360)
= 0.141
!!FWD Rate = 45.000 + 0.141
= 45.141
Pricing Mechanics for FWDs &
NDFs
FX Sales & Hedging and Financial Solutions
September 2010
NDF Example
!!The client wishes to hedge their USD
export proceeds by entering into a 1month
(30 day) NDF hedge to sell USD vs. Php
!!Current spot rate: 45.000
!! 1-month (30 day) NDF rate: 45.141
FX Sales & Hedging and Financial Solutions
September 2010
NDF Example (Scenario 1)
!! Assume the Php depreciates
!! On the 29th day, assume USD/Php wtd. ave. exchange
rate is 48.141 (11:30am fixing rate)
!! Net settlement amount:
"!45.141 – 48.141 = -3.0 (i.e. client pays)
!! Client can sell USD holdings at current market of 48.141
!! Net effect to client:
"!48.141 – 3.0 = 45.141 hedge cost
FX Sales & Hedging and Financial Solutions
September 2010
NDF Example (Scenario 2)
!! Assume the Php appreciates
!! On the 29th day, assume USD/Php wtd. ave. exchange rate
is 42.141 (11:30am fixing rate)
!! Net settlement amount:
"!45.141 – 42.141 = +3.0 (i.e. client receives)
!! Client can sell USD holdings at current market of 42.141
!! Net effect to client:
"!42.141 + 3.0 = 45.141 hedge cost
FX Sales & Hedging and Financial Solutions
September 2010
Added Risks
!!NDF structures have “fixing risk”
compared to a plain vanilla FWD.
!! If markets are volatile and FX rates move
against the client after the fixing rate has
been determined, the client may
experience a loss
FX Sales & Hedging and Financial Solutions
September 2010
!!What is a Swap transaction?
"!A swap is an agreement between two or
more parties to exchange a sequence of
cash flows over a period in the future.
"!The cash flows that the counterparties
generally exchange are tied to the value of
foreign currencies or debt instruments.
Swaps
FX Sales & Hedging and Financial Solutions
September 2010
!! 2 General Kinds of Swaps:
"!FX Swaps - exchange of one currency vs. another
with a simultaneous opposite exchange in the future.
!! Spot + reversing FWD
"! Interest Rate Swaps – exchange of cash flows
wherein one counterparty agrees to pay a
sequence of FIXED rate interest payments in
exchange for receiving a sequence of FLOATING rate interest payments.
Swaps
FX Sales & Hedging and Financial Solutions
September 2010
!! On Spot Date
!! On Spot Date, the
client sells USD vs.
Php to SBC.
!! On FWD Maturity
Date
!! On FWD Maturity
Date, the client buys
USD vs. Php from
SBC.
FX Swaps
Client SBC
$
Php
Client SBC
Php
$
FX Sales & Hedging and Financial Solutions
September 2010
FX Swap Example
#!An SME has both USD Export proceeds from
merchandise sales and USD Import requirements for raw
material importations. #!The SME needs to convert USD250K for Php at the start
of every year and needs to buy USD250K at the end of
every year.
#!The SME can execute a 1 year S/B FX Swap in order to
bridge the cash flow gap. #!The spot leg of the FX Swap generates Php liquidity for 1
year which can be used for OPEX and CAPEX.
#!The FWD leg of the FX Swap ensures a fixed exchange
rate in the future.
FX Sales & Hedging and Financial Solutions
September 2010
FX Options
What are FX Options?
!! An FX option gives the option buyer the right but not the obligation to perform what is stipulated in the FX option contract.
!! In contrast, option sellers have the obligation to perform
what is stipulated in the FX option contract if the option
buyer chooses to exercise his/her right.
!! Option Buyers pay a premium for the right to exercise on an option contract.
!! Option Sellers receive the premium for promising to
perform what is stipulated in the option contract.
FX Sales & Hedging and Financial Solutions
September 2010
FX Options
!! Two most basic kinds of options:
"!Call option (right to buy the underlying asset)
"!Put option (right to sell the underlying asset)
!! Two most basic types of options based on exercise
method:
"! American (option buyer can exercise the option anytime during the life
of the option)
"! European (option buyer can only exercise the option at maturity date
of the option)
FX Sales & Hedging and Financial Solutions
September 2010
FX Options
!!FX Options
"!Call Options:
"!Hedge against Php Depreciation
"!Provides “upside protection”
"!Put Options:
"!Hedge against Php Appreciation
"!Provides “downside protection”
FX Sales & Hedging and Financial Solutions
September 2010
Advantages of FX Options vs. FX
FWDs & NDFs
!! Provides Option Buyers the flexibility in FX conversions. If exercising the option is unfavorable to the client, then they will chose not to convert their currency. If exercising the option proves to be beneficial for the client, then they will exercise their right to convert their currency.
!! CALL OPTION BUYERS can buy FX at the pre-agreed strike price OR at the current market WHICHEVER IS LOWER
!! PUT OPTION BUYERS can sell FX at the pre-agreed strike price OR at the current market WHICHEVER IS HIGHER
!! Provides:
!! Full Protection
!! Flexibility
FX Sales & Hedging and Financial Solutions
September 2010
Trade Sectors / Potential Clients of
FX Options
CALL OPTION BUYERS
!! Importers
!! Clients with FCDU Loans
!! Local investors buying
foreign equities
!! Multinationals repatriating
funds abroad
PUT OPTION BUYERS
!! Exporters
!! Foreign investors buying local equities
!! BPOs
!! OFWs
!! Shipping Companies
!! Manning Agencies
FX Sales & Hedging and Financial Solutions
September 2010
Client Pay-Off Profiles
Exporters / USD Sellers
Importers / USD Buyers
P/L
FX Rate
P/L
FX Rate
FX Sales & Hedging and Financial Solutions
September 2010
Option Pay-Offs: Hockey Sticks
Call Options Put Options
LONG LONG
SHORT SHORT
FX Sales & Hedging and Financial Solutions
September 2010
FX Call Options
!! Pay-off profile of Importers hedging by buying
Call Options
Short USD Long CALL Hedged Position + =
FX Sales & Hedging and Financial Solutions
September 2010
Call Option Example:
!! Importer needs to Buy USD100K one month
from now.
!!Market consensus is for the Php to
strengthen (Target 44.00)
!!Current Spot Price: 45.00
!!Computed FWD Rate: 45.141
FX Sales & Hedging and Financial Solutions
September 2010
Call Option Example
!!Client decides to hedge FX risk by buying
a 1 month ATM European CALL Option
with Strike Price at 45.141
!!Option Premium: Php45,000 (i.e. Php0.45
per 1 USD).
FX Sales & Hedging and Financial Solutions
September 2010
Call Option Example
!! If Php weakens 1 month later to 46.141, then the
client chooses to exercise the Call Option to buy
USD at the pre-agreed strike price of Php45.141.
!! Net effect:
"!45.141 strike price + 0.45 premium = 45.591 effective
rate
"!vs. current market rate of 46.141
"!Savings: 0.55 vs. current market rate
FX Sales & Hedging and Financial Solutions
September 2010
Call Option Example
!! If Php strengthens 1 month later to 44.00, then
the client will let the CALL Option expire and
proceed to buy USD at the current market price
of 44.00
!! Net Effect:
"!44.00 spot + 0.45 premium = 44.45 effective rate
"!vs. FWD Rate of 45.141
"!Savings: 0.691 vs. FWD hedge
FX Sales & Hedging and Financial Solutions
September 2010
FX Put Options
!! Pay-off profile of Exporters hedging by buying
Put Options
Long USD Long PUT Hedged Position + =
FX Sales & Hedging and Financial Solutions
September 2010
Put Option Example:
!!Exporter needs to sell USD100K one
month from now.
!!Market consensus is for the Php to
strengthen (Target 44.00)
!!Current Spot Price: 45.00
!!Computed FWD Rate: 45.141
FX Sales & Hedging and Financial Solutions
September 2010
Put Option Example
!!Client decides to hedge FX risk by buying
a 1 month ATM European PUT Option with
Strike Price at 45.141
!!Option Premium: Php45,000 (i.e. Php0.45
per 1 USD).
FX Sales & Hedging and Financial Solutions
September 2010
Put Option Example
!! If Php weakens 1 month later to 46.141, then the
client lets the PUT Option expire and proceeds
to sell USD at the current market rate of 46.141
!! Net effect:
"!46.141 spot – 0.45 premium = 45.691 effective rate
"!vs. FWD Rate of 45.141
"!Savings: 0.55 vs. FWD Hedge
FX Sales & Hedging and Financial Solutions
September 2010
Put Option Example
!! If Php strengthens 1 month later to 44.00, then
the client will exercise the PUT Option to sell
USD at the Strike Price of 45.141
!! Net Effect:
"!45.141 strike – 0.45 premium = 44.691 effective rate
"!vs. current market rate of 44.00
"!Savings: 0.691 vs. Market Rate
FX Sales & Hedging and Financial Solutions
September 2010
What do you hedge?
!!Hedge net economic exposure not nominal
exposure
"!Company-wide analysis across business units
"!Examine customer/supplier contracts
!!Hedge only what matters
"!Material impact on the bottom line
"!Ensuring cash flows match cash needs
FX Sales & Hedging and Financial Solutions
September 2010
How do you hedge? !!Calculate total costs and benefits
"!Direct Costs
!! Transactions costs, broker fees, etc.
"!Indirect Costs
!! Opportunity Cost of holding margin capital
!! Forgone upside/benefits of favourable market moves
(probability; corporate view)
!! Look beyond financial hedges !! Contracting Decisions
!! Vertical integration
!! Operating off-peak hours
FX Sales & Hedging and Financial Solutions
September 2010
END Thank You!
For further questions, please call:
SBC Hedging and Financial Solutions
888-7011 to 18
Rovic De Guzman – TMU Head
Aileen Chua – Head of Hedging
Robin Galang – Hedging Team
Sheilagh Rivera – Head of FX Sales
Francis Buenaventura – FX Sales Team