Hedging of currency risk

A forward is a binding agreement between two parties on the buy or sell an agreed amount of a certain currency at a fixed (forward) exchange rate on a certain day in the future. The maximum period in which forward transactions can be entered into is up to two years.

The forward exchange rate is determined based on differences in interest rates of both currencies and the current market (spot) rate. Accordingly, the forward exchange rate may be higher or lower than the current exchange rate.

 Advantages:

• You can ensure a fixed/known exchange rate for any future date.
• You enjoy full protection against an unfavorable change in the exchange rate.
• No additional costs.

Disadvantages:

• You do not gain in the event of a favorable change in the exchange rate.

An American forward is a binding agreement between two parties on the buy or sell an agreed amount of a certain currency at a single fixed exchange rate during a certain pre-agreed period. In this transaction, you do not need to indicate an exact date, but you only specify the period during which you will buy or sell a certain amount of foreign currency. The maximum period in which transactions can be entered into is up to two years.

During this period, you have the opportunity to partially exchange any amount of foreign currency at any time, and SKB ensures you an unchanged single exchange rate for the entire amount and the whole period. You have to use the total amount of purchased or sold currency by the end of the agreed period.

Advantages:

• You can ensure a single fixed/known exchange rate for the period of up to two years.
• You enjoy full protection against an unfavorable change in the exchange rate.
• No payment of a premium and no additional costs.

Disadvantages:

• You do not gain in the event of a favorable change in the exchange rate.
• The exchange rate is slightly worse than in the case of a plain forward due to flexibility.

Currency swap is a binding agreement between two parties on:

• A simultaneous spot purchase or sale of a certain amount of a certain currency.
• A simultaneous forward sale or purchase of the same amount of a certain currency.

Currency swap enables you to regulate liquidity in a certain currency or to adjust the date of of already concluded transactions of hedging the currency risk.

Advantages:

• It enables adjustment of the maturity date of previously concluded futures transactions.
• It is used to manage liquidity in domestic or foreign currency.
• In the interim period, you can freely manage the funds in the selected currency.

Disadvantages:

• The cost of financing the position for the duration of the transactions.
• You do not choose the rates yourself, but both rates are quoted by the bank in accordance with market conditions.

A currency option gives the option buyer the right, but not the obligation, to sell or buy a certain amount of foreign currency at the agreed exchange rate on a specified date (or in a specified period) in the future. The option buyer determines the exchange rate, the amount and maturity of the option.

The option buyer decides on whether to exercise the option or not when the option expires. If the market rate is more favorable at maturity date, the buyer will buy or sell the foreign currency at the market rate.

For that right, the option buyer has to pay the option issuer a one-time premium upon concluding the transaction.

Advantages:

• You enjoy full protection against an unfavorable change in the exchange rate.
• You can gain in the event of a favorable change in the exchange rate.

Disadvantages:

• Payment of a premium upon concluding the transaction.