Insight & Analysis

Unfair exchange

Published: Jul 2021

Companies that regularly send or receive payments in foreign currencies are throwing away potentially huge sums by not doing everything they can to access the best rates of exchange.

wooden currency figures

It is almost impossible to predict currency movements. A multitude of factors – some predictable (such as elections), others less so (for example, speculative trading) – determine whether the value of the pound rises or falls against the 180 or so other currencies recognised by the United Nations.

As a result, volatility is a major expense for corporates. The latest Kyriba Currency Impact Report reveals that publicly traded European companies lost US$3.67bn in the first three months of this year as a result of unfavourable currency movements.

Most if not all of these companies would have hedged at least some of their exposures, which makes the sheer scale of these losses all the more staggering.

Given the above, it might be assumed that every corporate goes to great lengths to ensure they are getting a good deal when converting their pounds to euros to dollars.

In the era of comparison websites – when companies can easily compare prices for utilities or business services and switch to a cheaper provider – it seems reasonable to think they would do likewise for foreign exchange. Yet many continue to pay more than they need to.

There are a number of good (and not so good) reasons why this is the case. Firstly, corporates are often tied to a banking relationship and rely on their bank to provide them with multiple services, which effectively makes them a captive client.

“The core relationship is traditionally debt-centric to ensure the business has adequate funding to meet trading and day-to-day expenses,” says Henry Wilkes, Head of FX at Currency Solutions Services. “Ancillary services such as foreign exchange are provided as part of the banking package, but are not core activities or areas of expertise for treasury so they tend to be priced insensitively.”

A 2019 report produced by Harald Hau, Swiss Finance Institute Professor of Finance at the University of Geneva and a group of ECB and IMF economists found that less sophisticated clients pay a premium when using a relationship bank for their FX trades, consistent with the idea that they are ‘captive’.

The report authors noted that the spread (the difference between the buy rate and the sell rate) paid by these smaller businesses is more than 25 times higher than that paid by the largest clients.

Apathy also plays a part. “Treasurers are often happy to deal with ‘the devil they know’ as it is too much effort to change their foreign exchange process and they do not always realise exactly how much their foreign exchange transactions are costing them,” says Wilkes.

For corporates with accounts across multiple jurisdictions, the process of opening new accounts following all know-your-customer and due diligence checks can take months and credit facilities would need to be renegotiated.

Then there is the knowledge gap. Brad Bailey, Capital Markets Research Director at financial services technology research firm Celent, points out that in small corporates with sporadic foreign currency needs, responsibility for FX tends to fall to treasury departments that are often not equipped with the appropriate technology or access to data.

“However, there are still substantial opportunities for smaller and mid-sized institutions to reduce their FX costs,” he says. “Fintechs are integrating more FX tools into cloud based treasury systems and providing better tools for corporate trading and hedging needs.”

Treasurers need to look beyond their banks for foreign exchange services and familiarise themselves with the array of alternative solutions now available, agrees Wilkes.

“It is vital that they play a proactive role by implementing a review of their foreign exchange process to give them better visibility of their specific requirements,” he concludes.

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