Photo of Swee Sun Tay, HSBC collects the award on behalf of Cochlear Ltd.

This solution makes use of advanced risk management techniques such as CfaR and VaR which also link directly to the risk appetite of the company’s board in order to determine appropriate currencies to hedge and how much to hedge. FX risk management is now much more aligned with the company’s risk appetite.

CFaR and VaR links risk appetite of board for this ‘Efficient Frontier’ FX solution

The challenge

A review of the FX risk management policy had not been undertaken by Cochlear Ltd in many years, with the previous policy being developed in 2010 when the company was quite different.

The formulation of the strategy was to answer the why, what and how of foreign exchange hedging for the company going forward.

The solution

Cochlear set about a review of their foreign exchange risk management policy by identifying the sources of foreign exchange transaction exposures as follows:

• Purchases/sales of goods and services in a foreign currency (non-functional currency) to offshore subsidiaries.
• Purchases of capital equipment priced in foreign currency (non-functional currency).

HSBC Bank performed an analysis of Cochlear Ltd’s foreign currency portfolio in order to determine the efficiency of the proposed hedging strategy. The Efficient Frontier considers the cost of hedging compared to the value at risk (VaR). The new hedging strategy improved the efficiency of the currency portfolio to a more optimal position along the Frontier.

Best practice and innovation

The main innovative concepts from this hedging strategy were as follows:

1. The risk management strategy was linked to risk appetite of the board and based on in depth analysis of the risk exposure using cash flow at risk (CFaR) and VaR.
2. Use of CFaR and VaR measurement techniques in order to determine appropriate currencies to hedge and also hedge policy levels to achieve an efficient frontier for hedging.
3. Determining appropriate circumstances for the use of different hedging products. Forward exchange contracts (FEC’s) are the main hedging instrument up to the minimum hedge levels and then FX options may be used to hedge between the minimum and maximum hedge levels. This provides protection while improving flexibility to allow for differences in timing and amounts of expected cash flows as well as the ability to benefit from more advantageous exchange rates on this portion of the exposure.