Foreign Exchange Strategies: Operation/Management Policy And Procedures
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From experience, I notice that the least area the financial executive would like to touch on is the policy and procedure on the foreign exchange management.
The main excuse is that the company does not frequently transact in FX dealings hence FX policy and procedure can be dispensable.
However as discussed in my earlier articles, we need to watch out for risk exposures and indeed FX exposure is the commonest and if not handled properly might produce undesirable financial impact.
Append below is a simple checklist of what might be included as the FX Operation/Management Policy and Procedures which the reader can expand upon:
Brief Definition of Currency exposure:
- We need to define the various FX exposure that the company might be confronted with like translation, transaction and economic exposure;
Methodologies to forecast currency exposure
- might include projected balance sheet for non working item and multiple operating cash flow forecast denominated in foreign currencies;
Quantification of Currency Risk
- Might include scenario analysis based on exchange rate forecasts, effect of 1%/1cent movement and the value at risk;
Policy framework
- Put the statement of the group’s attitude towards risk and its risk management objectives namely
- size and nature of currency risks faced by the group;
- ability to change prices in response to fluctuating exchange rate;
- other uncontrollable non-financial risks that may be high risk averse with regard to currency exposure;
- approach taken by direct competitors
Description of the role of treasury whether as
- a cost centre;
- profit centre;
- value added service centre
Explanation of how currency exposures are identified and reported
- specify responsibility – who to forecast and who to receive reports, etc;
- the frequency of forecasting;
- time horizon and reporting periods;
- type of exposure to be forecasted;
- standard reporting format.
Description of how exposure are to be managed
- whether subsidiaries are free to deal directly with banks, or through group treasury, or a mixture of both approaches;
- set up authorities limits and process to all hedging to be implemented;
- need to be an agreed rules for the time period in which hedges must be executed;
- need to stipulate that deals over a certain size must be quoted competitively by at least two or more banks;
- process to be followed for selecting banks that are asked to quote;
- key control processes such as segregation of duties, two ways confirmation, matching of transaction details are in place.
Specfic policies as to levels of cover that must be taken and the use of particular hedging instruments
- Specify minimum and maximum levels of cover that must be taken in respect of given categories of exposure.
Control over counterparty risk
- Monetary limit to be applied to the maximum exposure to each counterparty;
- Procedures for monitoring compliance with the limits.
Details of management reporting requirement
- Frequency of reporting
- Recipients of report
- Content of reporting submission such as position reports showing hedges in place at period end and mark to market value, forecasts of net exposure and hedges outstanding, forecasts of future exchange rate movements, proposed hedging strategy for approval, scenario analysis and statement of compliance with control procedures, etc
Policy statement should include inter-alia,the role of the Board of Directors, treasury, cash management, cash investment,borrowing, interest rate risk management risk management and foreign exchange exposure management.
Include the Organisational framework
Includes the methods of Internal hedging (refer to my earlier articles)
Includes the type of FX hedging instrument like for example:
- FX forward contracts;
- FX future;
- Currency options;
- Option-based derivative contracts;
- Others
Includes the hedging strategy like for example:
- Type of exposure
- Size of exposure
- Stability of the currencies
- Maturity period of the exposures
- Ability to forecast exposures
- Access to hedging instruments
- Attitude of shareholders
Describe the dealing procedures
Include the Control framework which should have the following:
- Statement of treasury objectives and policies
- Procedural manual
- Key control mechanism like dealing mandate, counterparties limit, confirmation and reconciliation, segregation of duties and management reporting.
- Source of advice
- Disclosure statement
- Ethical issues
Might include a section on performance management which includes:
- Identification of the purpose of performance management
- At what level should measurement take place
- What activities should be measured (transaction/translation exposure or control compliances)
- What benchmarks are appropriate
- Is the performance measurement based quantitative re: absolute/relative terms or qualitative like accuracy of exposure forecasting, efficiency of deal execution and others
- All Topics Covered Under Heading Of Foreign Exchange Management
- FX Foreign Exchange Tool- Management Reporting
- Foreign Exchange Strategies : Managing FX/Foreign Exchange Transaction Exposure Risk
- Foreign Exchange Management: Before Even We Consider Hedging Strategy
- Foreign Exchange Management: Forecasting and Quantifying FX Currency Risk
- Foreign Exchange (FX) Strategies: Internal Hedging Method/Technique (Part 2 of 4)
- FX Foreign Exchange Strategies: Internal Hedging Method (Part 3 of 4)
July 25, 2006
Tags: Foreign exchange strategies
Posted in: Forex Management
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All Topics Covered Under Heading Of Foreign Exchange Management | FMAccounting - March 10, 2008
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