Members of the FX Managers’ Peer Group 2 discuss the implications of the negative impact of the strong greenback at their recent meeting sponsored by Thomson Reuters.
Reacting to the strong dollar headwinds that had stiffened since their last meeting, US MNC FX managers from The NeuGroup’s FX Managers' Peer Group 2 met in mid-March to share thinking on how their FX management programs should respond. Aided by insight from Thomson Reuters, the meeting sponsor, they considered if their hedging efforts were continuing to meet corporate objectives or if changes in program or objectives might be required in light of the reversal in a decade’s long cycle of dollar weakening. Like with the sister FX Managers' Peer Group, The NeuGroup has seen multinationals in these peer-leading membership forums taking steps to take advantage of policy flexibility or propose policy changes to allow for some combination of increased hedge ratios, tenor extensions to lock in attractive rates, or switching to another hedge instrument. The goal is to have a policy that works equally well in a dollar-weakening cycle as in a dollar-strengthening one, and that requires either flexibility in the “levers” of risk management (ratio, tenor, instrument) or a stomach that can handle sustained periods of losses with a more rigid “no view” hedge program.
Speaking of the dollar… where is it heading?
Thomson Reuters’ Eric Burroughs, Editor & Managing Analyst of Reuters Buzz, gave a macro-economic overview and highlights on some key currency trends. First he noted that 2015 has delivered several macroeconomic and central bank surprises. The Swiss currency de-peg in January was “unlike anything we’ve seen in modern FX markets since the end of the Bretton Woods era,” and the Swiss central bank may adopt a Singapore-style FX management system along with negative interest rates. Oil-driven disinflation has prompted central bank easing “almost everywhere,” including rate cuts, asset purchases, and even negative rates. The ECB started its QE at the “earliest possible moment.”
Sustained dollar strength
The broader outlook is for sustained US dollar strength, which will likely push EUR/USD below 1.00 and keep emerging market currencies under pressure. At the same time, EUR is starting to be treated like the JPY as a weak currency, with hedging of euro asset exposures leading to a stronger negative correlation between EUR and European equities. The United States’ sustained recovery will push the Fed and Janet Yellen towards lifting short-term interest rates up from near zero as early as June. While the Fed is sounding some concerns, it looks likely to tolerate a stronger dollar as long as the US labor market remains robust.
Mr. Burroughs was joined by Ron Leven, Proposition Manager, FX Pre-Trade Strategist, Thomson Reuters, who spoke to the group a year ago as well. He reiterated his point from a year ago that USD volatility will continue to rise. After several years, post-crisis, of declining USD volatility, held down by quantitative easing and low volatility in fixed income and equities, a Fed rate increase (when the rest of the world is easing) is an indicator of more volatility to come. Mr. Leven also previewed a coming feature in Thomson Reuters Eikon, a currency value tracker which highlights interest-rate differentials and volatility of currency pairs and which can be used as a tool in making hedge decisions. Look here for a free trial of Eikon.
Metrics and messaging around FX impact
A strengthening dollar challenges foreign earnings and translated assets of USD-reporting companies. After a long time of little to no explanation to external stakeholders necessary (or desirable) as a weakening dollar benefited them, dollar appreciation requires proactive messaging and metrics to show that the underlying business is performing so investors don’t penalize the company’s stock unfairly for factors outside its control.
For example, one member company added metrics on FX impact on EPS growth rate to its guidance messaging about a year ago, which has been well received by the Street. One reason was that the company has more international exposure than some of its competitors so it needs to be able to explain the difference FX makes in a way that resonates, comparing, for example, how EPS growth would have been affected if 2014 results had occurred at 2013 FX rates.
Derivatives regs update: NDF clearing mandate is off the table, for now, clearing for currency options even further out.
Armed with how their peers are responding, as well as measuring and communicating the performance of their programs, our members are in a better position to deal with the prospect of sustained dollar strength and heightened volatility. Thomson Reuter's Jodi Burns, head of regulation, post-trade networks, left them with good news: amid all this, they need not focus for now on the NDF clearing mandate under either EMIR or Dodd-Frank as there will be continued delay. See iTreasurer post on this subject, here. An easing of regulatory compliance mandates in the midst of a global currency turn… now that is a relief.
The FX Managers' Peer Groups 1 & 2 are the NeuGroups for senior treasury professionals from across industries who have oversight responsibility for FX risk management. They are the longest-running forums for peer knowledge exchange for FX professionals in the US. Visit FXMPG here, for more information.
The NeuGroup is the leader in peer knowledge exchange and intelligence for treasurers through its iTreasurer publication and The NeuGroup Network of 18 member groups serving more than 350 treasury and finance professionals across functions, industries and global regions.