Unprecedented FX Volatility in 2022 is a Wake-up Call for CFOs

By Andy Gage
SVP, FX Solutions

The most recent Kyriba Currency Impact Report confirms the unprecedented wild ride in FX volatility for the calendar year of 2022. Cumulative reported aggregate impact for 2022 was just shy of $170 Billion, by far the largest annual aggregate impact since the Currency Impact Report has been tracking Corporate FX Impacts to financial performance.

Regarding Q4 2022 specifically, corporate impacts to earnings were just north of $32 Billion for the quarter, a 50% reduction from Q3 2022. While this was a welcome relief for corporates who were nearing their breaking point at the end of Q3; it is important to recognize that the $32B impact is still well above the 2-year rolling quarterly impact average. Needless to say, 2022 was a very hard year for CFOs and Treasurers as far as navigating FX risk.

Our FX Advisory team consistently sees three themes

  1. Focus on Hedging Cost Reduction Strategies
  2. Improve existing Balance Sheet & Cash Flow programs to be better prepared to deal with the next cycle of FX volatility spikes
  3. Launch new Cash Flow Programs to protect Revenue, Expenses and EBITDA

Focus on Hedging Cost Reduction Strategies

As interest rates continue to move, FX rates remain volatile. For many companies, this is resulting in increasing hedge costs. For others earning positive carry on contracts, it means the opportunity cost of not maximizing those earnings is increasing.

In response to this, CFOs are pushing the treasury teams to find ways to optimize the cost/benefit of hedging their portfolios. Many treasury teams are implementing analytics to uncover opportunities these opportunities. The right analytics help companies identify a combination of the best natural hedging opportunities, exposure netting opportunities, and evaluation of correlations in their FX exposure portfolio in order to optimize the most cost effective hedge decisions.

As best in class Treasury Management solutions make this analysis more accessible, we are seeing an increased appetite for using Portfolio VaR & Cost of Carry based hedging strategies. Right now is truly the dawn of a new era by incorporating these concepts into hedge program processes, rather than utilizing them for occasional analysis. All of these cost reduction strategies are enabled through Kyriba’s FX Exposure and Risk Management solutions.

Enhancing Existing Balance Sheet and Cash Flow Hedging Programs

While many companies are focusing on the cost reduction strategies outlined in the prior section, many companies are also re-thinking their overall approach to managing currency risk. One brutal realization that many Treasury teams had to come to terms with in 2023 is that their manual, spreadsheet-based processes for aggregating exposure and determining what to hedge where not adequate for dealing with the wild gyrations of FX volatility and the rapidly evolving interest rate environment. Compounding this issue has been a lot of employee turnover of treasury professionals managing hedge programs, and poor knowledge transfer or lack of proper resources provided to those absorbing these responsibilities. As a result, there is a strong appetite for automation and analytics so FX teams can shift their focus from spending 60% to 70% of their time on aggregating and validating their exposure data in their spreadsheets to spending 70% to 80% of their time on analytics and decision making so they can more adequately and dynamically revise their hedging strategies in response to the rapid changes in the currency and interest rate markets.

Launch Cash Flow Programs to Protect Revenue, Expenses and EBITDA

For those multi-national companies that have not historically managed Cash Flow hedging programs, the 2022 FX impacts to revenues, expenses, and EBITDA were shockingly large and negatively impacted their financial results and corporate valuations to unprecedented loss.
Not surprisingly, after the dust settled from 2023, one of the major pushes from Boards and CFOs is for treasury teams to move quickly stand-up robust cash flow hedging programs. This is no small task to say the least.

Several things need to come together to ensure success such as:

  1. Develop effective processes to capture reliable forecasts of revenues and expenses going out 12 to 18 months or further depending on the nature of the business
  2. Determine how to properly hedge the resulting exposures
  3. Determine how to properly account for the resulting hedges, in the vast majority of cases this means setting up the proper method for Cash Flow Hedge Accounting
  4. Establish and gain cross functional alignment between treasury and accounting on a formally documented Hedging Policy and secure approvals from the company’s board of directors and Audit Partner

Kyriba can assist companies with this effort by providing the best-in-class turnkey solution that provides end-to-end automation, analytics, hedging decision support and hedge accounting software in combination with FX advisory services to help with the development of the hedging program design, hedge policy development and gaining alignment with Treasury, the controller and specifically the technical accounting team.

In summary, 2023 was a wake-up call for CFOs, Treasurers and Corporate Risk Managers, but fortunately, Kyriba is here to assist in helping companies modernize and digitize their currency risk management programs.