Companies continue to face foreign currency headwinds when it comes to earnings impacts, according to a report from FiREapps, a provider of FX exposure-management systems. This is because emerging markets will continue faltering as the Federal Reserve continues to taper.
Nearly 200 companies reported material negative currency impacts, or headwinds, in the fourth quarter, according to FiREapps. This is a 4.4 percent decrease over the third quarter and a 7 percent decrease over the 2012 average. Fifty eight companies reported positive currency impacts, or tailwinds, in the fourth quarter. Putting headwinds and tailwinds together, the net quarterly impact from currency volatility was about $5.65 billion in losses – the highest in 2013.
And the volatility is expected to continue, says Andy Gage, VP of Strategic Market Development, General Manager European Operations, at FiREapps. That’s because the problems persist, most notably with recent developments regarding Ukraine and Russia, but also issues in China and Latin America. In China the yuan has been forced into devaluation. Not only that, the Peoples Bank of China widened the yuan’s trading band with the dollar. The central bank will now allow the exchange rate to rise or fall by 2 percent from the official guidance rate on any given day. Previously the range had been 1 percent.
According to Bilal Hafeez, managing director of FX research at Deutsche Bank, 2013 was turning point for emerging markets. This is due to a number of factors, most notably the Federal Reserve “taper.” Over the past several years, Mr. Hafeez said in a recent webinar, emerging markets have been the go-to markets as developed markets faltered amid the financial crisis.
The popularity in emerging markets was due to partly structural reasons, Mr. Hafeez said, noting the rise of the middle class, but was also turbo charged by the Fed’s quantitative easing. The result of this was that emerging market countries were able to hide domestic problems. Now that the Fed is drawing down its bond purchases and threatening to tighten rates, “the cracks are beginning to show,” Mr. Hafeez said. This will only get worse if the US dollar continues to strengthen; and it likely will he said, citing assets bubbles in Asia, inflation across Latin America and unemployment problems in Europe. This leaves the US dollar as the only viable destination for global funds.
Surprise close by
But it’s not just emerging markets. Canada was a surprise entrant into the list of what FiREapps calls the “Currency Culprits,” or “The 5 Currencies Most Mentioned in Earnings Calls as Impactful.” The Canadian dollar (CAD) was mentioned 14 times in earnings calls, tying the Brazilian real with the most mentions.
The CAD sits at its lowest level versus the US dollar in more than 4 years. According to Brown Brothers Harriman, the reason for this is the apparent hawkishness of the Fed and the somewhat dovishness of the Bank of Canada. This dynamic has “taken a toll” on the currency pair, Brown Brothers said in a note to clients. Slack in the real economy is also dragging on price growth as is a marked slowdown in inflation, which continues to push the USD/CAD to fresh monthly highs and fueling bets of a rate cut.
This just goes to show that you cannot tell where the currency surprises will come from, FiREapps’ Mr. Gage said. “Everybody has a tendency to focus on the popular, most-talked-about currency exposures,” Mr. Gage said. “A couple of years ago it was the euro, the beginning of last year it was all about the yen, and then it was emerging markets. But all of a sudden currencies that shouldn’t have caused any heartburn are causing a lot of heartburn.”
“Any number of [currency] issues can have an earnings impact,” Mr. Gage said. But despite hundreds of potentially problematic currency pairs, emerging market pairs present the biggest risks at the moment. And companies that have invested in emerging markets and haven’t prepared for the associated currency risk will likely face significant negative impacts to earnings going forward.