20 Aug, 2017 (Updated 25 Sep, 2017)
Currency exchange rate movements are as unpredictable as the Scandinavian summer.
But companies that secure their currency rates in advance can look forward to a smoother sailing than those who don’t, analysts say.
Forty percent of Norway’s total exports go to the eurozone, which is also the source of a third of the country’s total imports. Consequently, no currency matters as much to Norwegian export and import companies than as the euro (EUR). In the month of May alone, Norway imported EUR 3.4 billion worth of goods from the eurozone countries, while total exports to the same countries amounted to EUR 2.2 billion.
Behind those numbers are thousands of companies and organizations, big and small, which all need to buy euro to pay for the imports. The problem is that the price (exchange rate) of the euro when it’s time to pay the bill may be different from when the contract was signed. If, for example, the value of the Norwegian krone (NOK) has fallen against the EUR they end up paying more they had expected. What once looked like a good deal can turn into a disaster in the meantime, warns Ole Håkon Eek-Nielsen, Chief Foreign Exchange (FX) Analyst at Nordea Markets in Oslo: “Let’s say you agree to buy goods from a eurozone exporter at a certain price in euro. If the value of the krone falls against the euro by 10 percent between the signing of the contract and the actual payment, your entire profit margin on the deal is erased, if it’s not above 10 percent.”
Such a scenario is not unlikely given the fast pace of today’s global currency market, where billions of dollar, euro and krone change hands every second, fueled by sheer speculation as well as trade-related needs. At the beginning of this year, for example, 1 EUR cost around 9 NOK, six months later it traded at 9,35 NOK, or roughly 4 percent higher.
Oil price shock hit the krone
The fluctuations were even worse a few years ago, in the fall of 2014 when the Norwegian economy first began to feel the effects of a drastic fall in the price of oil, recalls Eek-Nielsen: “In August that year, a euro cost around 8,10 NOK; in January the following year you had to pay NOK 9,15 – a 12-percent increase.” Retailers that rely on imports were particularly hard hit, he says: “Increasingly squeezed by fierce competition from e-commerce players, many retailers operate with profit margins way below 12 percent. Such a sharp drop in the value of the NOK risked wiping out their entire profit.”
Moreover, retail companies that sell to consumers find it difficult to pass on price increases that are the result of currency movements to the customers.
Given the intense competition in retail sectors like electronics, sporting equipment and clothes, no single player dared raise the prices and as a result the entire retail industry lost money solely because of currency reasons.
There were exceptions, however. Those companies that secured the EUR/NOK exchange rate in advance by signing a forward currency contract knew exactly in advance how much they would pay for the euro they needed once it was time to pay the bill.
So, why don’t all export and import companies use these instruments, which have been available at the nearest bank for decades and are easier to get today than ever before, thanks to automated banking services such as Nordea E-markets? Because the force of habit is strong, suggests Eek-Nielsen, and hints that most business owners are optimists (if they weren’t, they might never had gone into business in the first place): “A lot of companies adopt a wait-and-see approach in currency matters, and if they haven’t used FX instruments before they may be reluctant to use a new instrument. They argue that currencies always fluctuate, sometimes they win and sometimes they lose,” he says.
Balance sheet undermined
The potential loss, however, from an unfortunate currency exposure may be sizeable enough to undermine the cashflow and the balance sheet, and even drive the company out of business, notes Eek-Nielsen:“And, if the worst happens, you may no longer be in a position in which you can look forward to potential gains from currency movements going your way in the future and even out the losses.”
While some business owners may prefer to gamble on the fact that they might also make money from currency fluctuations, it is the sort of gambling that Eek-Nielsen think is best to avoid:
“Whether you are an entrepreneur or a successful business owner, your best bet is to focus your energy and attention to continue doing what you do best. Leave speculations to those who have the time and can afford to lose money.”
Nevertheless, if your company ever need to buy or sell foreign currency, it is always a good idea to follow the news, analyses and reports that affect the currency markets at nordeamarkets.com and other channels.
Nordea e-Markets: Protection made easy
Is your company planning a deal that involves foreign currency? Do you want to know how much the currency will cost (or bring, in the case of exports) when the time for payment is due? Check out E-Markets today, says Nina Døvre, FX expert at Nordea in Oslo:“By entering terms of a deal with a foreign counterpart in Nordea’s E-markets platform it is easy to check the price of buying protection against currency fluctuations in the form of FX Forwards and other instruments. Budgeting and profit calculation is obviously easier if you know the exact amount in kroner.”
What is an FX Forward? Døvre explains:
“It is an agreement between you and a bank in which the bank agrees to sell you a certain amount of euro at a later day at a price that is known today.”
The forward price of a currency is marginally higher than the price you would be paying if you buy it in the spot market, with immediate delivery. This difference is partly based on the fact that different countries have different interest rates. Norway, for example, has a higher interest rate than the eurozone countries.