Mitigating risk in emerging markets is always a challenge, particularly when there’s no way to do it.
Invoicing-currency choice, education of sales teams, and cash-flow hedging are common methods for mitigating exposures in emerging markets. However, many countries have cumbersome rules and there are those which seem not to be hedgeable at all.
At one of the most recent FX Managers Peer Group meeting, members discussed ways in which they handle risk in emerging markets. Here are some thoughts from the meeting.
There are few takers in an expanded RMB FX Market. Cross-border RMB deals are possible in Hong Kong and offshore RMB accounts are now allowed. This means you can agree with your business partners outside China to do business in RMB. One member said he began using the Hong Kong deliverable market for China this summer, in a transaction involving an RMB service invoice to a vendor in Beijing. This company is a pioneer in this area, though: few companies want to “go first” and as a result have not taken advantage of the new rules yet.
Some countries require untested risk management techniques. One member’s African subsidiaries in South Africa and Mozambique are local-currency functional, but the intercompany billing is in euro. Hedging the exposure is both uneconomical for the sub and if done at the parent level it results in hedge accounting-related headaches.
There were various suggestions on how a company might manage illiquid and obscure currencies like the Mozambique metical. The first step might be to consult with a bank like Standard Charter, which has a considerable presence in the area. Another suggestion was to look at “off-the-beaten-path” firms like special purpose fund TCX Investment Management for advice. Other ideas were to find a Barbados-based firm that wants dollars and trade the unwanted currency with them offshore, in the Caribbean or to set up a specialized NDF, which would create exposure to the metical as a South African entity. However, companies rarely want to try unproven methods, and the hedge accounting issue remains.
Finally, one member suggested that a company “get rid of” un-hedgeable currencies by combining them into in a portfolio with everything else that’s un-hedgeable, in the hopes that their positive and negative impact cancel each other out. “You’d hope [the currencies] perform better as a group than individually,” he concluded.