How to protect your business from the volatility of the naira

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How to protect your business from the volatility of the naira

The latest earnings results on the NGX show that blue-chip brands that include Airtel Africa, Guinness Nigeria, Nigerian Breweries, and Cadbury Nigeria lost a significant amount of money due to FX exposures.

An abysmally wide gap has emerged between the official rate and the black-market rate (N870/$) because of a dollar shortage at the official market. In addition, the naira-dollar exchange rate recently sold off at an intraday high of N869/$1 at the counter for investors and exporters.

With the Federal Reserve announcing hawkish plans to combat inflation, it seems likely that the USD will remain volatile and the currency of choice in an uncertain FX market in Nigeria

Making the most of international opportunities means setting up your business for seamless foreign currency transfers, as well as making sure you stay smart about exchange rates and other potential fees.

As exchange rates fluctuate, you may find your costs go up and your profits go down. However, there are some things you can do to protect your business and profits.

Direct Hedging

Direct hedging is the most common simple hedging strategy.

The institution takes a long position in a currency pair while simultaneously taking a short position in that same pair.

Direct hedging is not a way of making money as it rarely generates a net profit.

However, it provides relatively effective protection against currency fluctuations, allowing companies to make bolder operating decisions knowing that there is a degree of consistency against exchange rates.

Early payment is encouraged

If you face currency fluctuations because you sell to international customers, setting up payment terms upfront is the easiest way to protect yourself.

Requiring all or part of a prepayment from a customer means eliminating or reducing the risk of exchange rate fluctuations between the time you accept the contract and the time you get paid.

If you’re concerned that customers won’t respond well to immediate payment terms, offering an early payment discount will encourage them to choose this option.

Discounts or other incentives, such as credits for future purchases, give your customers a financial reason to pay sooner.

Forward contracts

Forward contracts are one of the safest ways to protect your business against currency fluctuations.

These allow you to pre-set the exchange rate at which you will buy or sell but only pay for it at some point in the future when you really need it.

For example, imagine that you are about to purchase some $5,000 worth of goods from a supplier in the United States.

The payment terms you have agreed to state that you will pay the supplier for these supplies when you receive them, within six months.

Between the end of the deal and the actual payment for the supply, the greenback could strengthen, and you’ll end up paying more naira than expected.

However, if you buy a forward contract, you can agree to buy $ 5,000 six months from now at today’s exchange rate.

This means you are protected from paying extra.

Rolling Hedge

Companies that are frequently exposed to exchange rate fluctuations can use swaps or options to hedge against currency fluctuations.

Alternating hedging helps reduce risk by closing a hedging product that is about to expire (such as a futures or options contract) and at the same time opening a new contract, pushing back the expiration date of the original insurance product.

Bottom line

While past trends cannot accurately predict the future stability of a currency, if you have a choice between a stable currency and an unstable currency, think carefully about where you want to invest your money. High-risk strategies can certainly work, but make sure your portfolio or business can survive a negative outcome in case currencies continue to fluctuate.