When sending money internationally, currency exposure is a key concern, as exchange‐rate fluctuations can significantly impact the funds received. Currency exposure refers to variation in exchange rates between two currencies, which can result in financial loss and make the final amount unpredictable. Forward contracts offer a risk-management solution by allowing you to lock in an exchange rate for a future date, ensuring clarity with international payments. In this post, we explore currency exposure, explain forward contracts and highlight their advantages for mitigating currency risk in cross-border transfers.
Currency Exposure and Its Effect on Global Transfers
Currency exposure can hugely affect international transfers, whether you send money for business or personal needs, as fluctuations in exchange rates can impact the amount of funds sent or received. If exchange rates move unfavourably between the time you initiate and complete a transfer, you may end up with significantly less in the destination currency than you originally anticipated. Exchange rates can be influenced by many factors including interest rates, inflation, international conflicts and trade policies, making them inherently volatile.
This volatility complicates budgeting and cash-flow planning, particularly for large sums, and can erode profit margins, salary payments or investment returns if not managed effectively. This is why many making international payments choose to utilise forward contracts to eliminate these potential fluctuations from affecting their future transfers.
What is a Forward Contract?
A forward contract is a risk-management tool that allows you to secure an exchange rate today for a money transfer on a specific future date, up to 12 months ahead. If current rates are in your favour, they can be locked at that rate now, protecting against market volatility and ensuring budgeting and profit margins remain intact.
Forward contracts reduce currency risk because if the exchange rate falls during the agreed period, you won’t be affected, having already secured the rate. They provide an exact cost for the transfer in advance, so you know precisely what you’ll pay. This certainty is especially useful for businesses with planned payments in foreign currencies, as it removes concerns over exchange-rate unpredictability.
Types of Forward Contracts
There are different types of forward contracts available, each ideal for various situations: fixed forward contracts; open (flexible or variable) forwards; non-deliverable forwards; time-option forwards and window contracts. Below, we explain more about each type of forward contract:
Fixed Forward Contracts: Fixed forward contracts let you exchange currencies on a specified future date at today’s locked-in rate. Regardless of market volatility, you receive the agreed rate at maturity, protecting budget planning. They suit businesses or individuals with known payment obligations, providing cost certainty and protecting profit margins from adverse currency movements.
Open, Flexible, or Variable Forward Contracts: Open, flexible or variable forward contracts allow you to adjust the settlement date within an agreed period, unlike fixed forwards. This flexibility benefits those who need to send or receive funds earlier or later than originally scheduled. They include rate options or ceilings, enabling partial execution and giving clients greater control over timing and currency risk management.
Non-Deliverable, Time Options & Window Contracts: Non-deliverable forwards (NDFs), time-option forwards and window contracts calculate forward rates based on interest-rate differentials and market factors, settling in cash rather than physical currency. NDFs settle the difference between the contract rate and prevailing spot rate in cash. Time-option and window contracts offer flexible settlement timing, making them suitable for complex hedging strategies.
If you’re unsure which type of forward contract is best suited, speak with a specialist at NewbridgeFX who can explain the most appropriate option for a particular situation.
The Advantages of Forward Contracts for Managing Currency Exposure
Forward contracts are a practical tool for managing currency exposure when sending money abroad, helping to mitigate risk and protect a budget. Below are some advantages of using them for international payments:
Rate Certainty
Forward contracts guarantee a specific exchange rate for a clearly scheduled future transaction, shielding you from adverse market fluctuations. By locking in rates at the outset, they eliminate uncertainty and ensure you know exactly how much you’ll receive or pay. This rate certainty is vital for protecting profit margins and avoiding unexpected costs in international payments.
Enhanced Budgeting Accuracy
By fixing exchange rates in advance, forward contracts enhance budgeting accuracy and cash-flow management. Both businesses and individuals can forecast payment amounts with confidence, integrating them seamlessly into financial plans and balance sheets. This predictability helps allocate resources more efficiently, avoid funding shortfalls and maintain stable operations, even when markets become turbulent, ensuring obligations are met without disruption.
Cost-Effective Hedging
Unlike currency options, forward contracts require no upfront premiums, making them a cost-effective hedging tool. You only negotiate the exchange rate and settlement date, with no hidden fees or margin calls. This straightforward structure conserves working capital and ensures full coverage of your exposure. It’s an efficient way to secure future payments without incurring additional charges or complexities.
Manage Currency Exposure with Forward Contracts
At NewbridgeFX, we partner with businesses and individuals to help them make global currency payments cost-effectively using our range of risk-management tools. Our clients can utilise forward contracts, spot contracts, market orders, stop-loss and limit orders, and exchange-rate alerts to get the most for their money and mitigate currency risk.
Whether you’re transferring funds to employees or suppliers, investing in property abroad or working overseas, we ensure you benefit from the best exchange rates, no transfer fees and fast, hassle-free transactions. Register online in seconds or contact our specialist team for more information on our FX services and managing currency exposure.