Amid a soaring yen, treasurers were encouraged to think long-term.
One currency is soaring the other is tanking, as a company what do you do? For the moment, nothing. That was the case nearly 20 years ago when, opposite of today, the yen was rising fast and the dollar tanking. But because companies aren’t active currency traders per se, they’re left to plan ahead; and assuredly not get burned by picking tops or bottoms.
Amid a soaring yen, treasurers were encouraged to think long-term.
One currency is soaring the other is tanking, as a company what do you do? For the moment, nothing. That was the case nearly 20 years ago when, opposite of today, the yen was rising fast and the dollar tanking. But because companies aren’t active currency traders per se, they’re left to plan ahead; and assuredly not get burned by picking tops or bottoms.
Amid a soaring yen, treasurers were encouraged to think long-term.
One currency is soaring the other is tanking, as a company what do you do? For the moment, nothing. That was the case nearly 20 years ago when, opposite of today, the yen was rising fast and the dollar tanking. But because companies aren’t active currency traders per se, they’re left to plan ahead; and assuredly not get burned by picking tops or bottoms.
The Corporate Treasurer's Guide to Global Financial Management
May 1, 1995 Spill over effects SE Asia: Hedging Against a Yen Bloc Central banks in Southeast Asia are said to be boosting the level of yen in their currency reserves. MNCs should start contingency plans for Asia to truly become a yen bloc. Longer-term yen ri sk 1 A Yen for More? With yen exchange rate repeatedly breaking historic highs against the US dollar, more com- panies should start to look beyond simple near- term profits (or losses). Instead, they should look to the longer-term tactical and strategic implications of their long-yen positions. Southeast Asia has been a popular pl ace for US MNCs to do business, because with the doll ar as the 1egional trade currency, and cl osely cor- related to the local currencies, they did not have to manage much currency risk. The situa- 1 tion coul d be changing. A majority of dol l al' -based MNCs have been enj oyi ng some revenue benefits from the stark appreciation of the yen in recent months. Whil e the recent situation has been positive, there a1e some areas of concern for the long-run. As mar- kets await G-7 action and the eventual bottom Adding yen to reserves Whil e the components of reserves backing bas- ket currencies like the Malaysian ringgit and Thai baht are a closely guarded secret, the1e are signs that these Southeast Asi an centl"a l banks are buying up yen to change the mi x of their currency reserves away from the doll ar. Asian regional treasurers note that increasing central bank yen reserves wou ld explain why yen li quidity has been sapped, despite ampl e selling of yen by the Bank of Japa n. It al so would explain recent strength in dol lar-linked Asian currencies against the doll ar. Thi s has been seen not onl y in the baht and ringgit, but in the Singapore doll ar and Indonesian rupi ah. Asian central banks will have to perform an interesting balancing act, as they try to manage the possibl e transition of the region to a yen- bloc. On the one hand, they want their local currencies to be reasonabl y in-line with t he US doll ar, and weak against the yen, i n order to sustain growth in th eir ex port sectors and encourage Japanese capital investments. Thi s mi ght expl ain a rumor in late February and March of this year rega1ding the potenti al for a devaluat ion of the baht against the doll ar, ' of the doll ar fall , now is a good time to assess the tacti cal and strategic currency management ' responses to the yen-doll ar rate of exchange. Here are some hi ghli ghts based on conversa- tions ove1 the last week. Changing hedging approach 1 At first glance, the hi stori c hi ghs for the yen seem to have had littl e immediate impact on hedging strategies. Most compani es adjusted their tacti cs in the first half of 1994-some of them after wrong-siding the market by protect- ing budget rates of 120-1 30 yen to the doll a1 aga inst expected greenback appreciation. Few have changed thei r hedging appmach dramaticall y. Yet, on the back of hi stori c yen hi ghs, treasu1e1s are looking at ways to lock-in today's currency value on long yen positions. Several compan ies say that they al so wi ll be looking to do this as far out as they can, per- haps further than thei r normal hedging pattern. Some are still bound by the soon-to-be-over- haul ed hedge accounting ru les: "We are look- ' ing to hedge out as far as we can and still get hedge accounting," notes one treasu1er. to conceal its increasing yen component. The ringgit, whil e strong recently, has al so been talked down, due in part to politi cal uncertain- ' ty surrounding elections. Thi s may be the on ly A plus for options. According to Jonath an Berg, managing di1 ector w ith KB CLmency Adv i sors in New Jersey, many compani es l ea rn ed th eir l esso ns about the va lu e of opti ons-based st rategies last yea r. Using for- wards to l ock-in budget ed exchange rates, continued on back page continued on page 2 SE Asia: Hedging Against a Yen Bloc Asian central banks look to manage the trans it ion to a yen- bl oc. page 7 A Yen for More? Apparent structu1a l changes in the yen- doll ar exchange rate have MNCs reeva luat- ing their longer-term FX exposure. page 2 Transferring Yen Profits An aggressive posture by US and japa nese tax authoriti es ca ll s for carefu I transfer pri cing, including the management of FX ga ins (or losses). page3 A Basle Accord for Market Risk Proposed BIS stan- dards for banks to use internal models to ensure minimum cap- ita l gives corporates new benchmarking guidelines. page 4 VaR & Corporate In-house Banks Central to the Basle proposa l, corporales may conside1 using value at risk as a tool to formall y capitali ze treasury activiti es. page 5 Benefits from "Road Shows" Investment in compre- hensive p1esentat ions, demonstrat ing finan- cial strength, is money and time well spent. page 6 Yen Risk continued from page 1 they were not abl e to part1 c1pate in any upside when the doll ar continued to fa ll through 1994 and not recover as anti cipated. "Balancing your assets and li abiliti es i s th e fir st step," recommends Mr. Berg, "and don' t focus on pi cking the doll ar bottom." A lot of compani es did not do as well as they could have last year, he notes, " because they kept try- i ng to pick the bottom of the doll ar. Meanw hil e, compani es that bought options and left their yen positi ons on have done rather well. " While opt i ons are quite ex pensi ve now, Mr. Berg admits, " in qui et mar- kets, and for the longer term, options are th e r i ght way to go." In other words, look for opportuniti es to buy sli ghtly out-of-the-money options with str ikes set for the doll ar to ri se, pur- chasing progressively more out-of-the- money options to cover ant i cipated transactions further out in the future. Not all compani es would necessarily wa it for l ow vol ati lity periods, and hence cheaper option premiums. " It has been a very long time since we have seen single-di git vol atility in 12- month options," says one international treasury manager, "and given the size of our business in j apan, and 2-3 yen moves intraday, the potential financi al impact of an adve1se yen-doll ar move sign ifi cantly outweighs the costs of paying up for volatility. " While most companies would wel- come the sight of volatilities coming down a couple of percentage points at the long end of the options curve, they should consider carefully the costs of waiting compared to the addi- tional premium they will need to pay up front. Pricing negotiations on the business side Many treasurers note that the most visi- ble impact of the hi gh-yen situation has been in negotiations on the operations side. The most pressing negoti at ions clearly have been focused on replacing yen-based sup pi iers with those operat- ing from weaker currencies. 2 Japan's middl e-market compani es in the intermediate stages of the value chain have been hit the hardest by the yen's appreciat ion. Compani es operat- in g in and out of Japa n are bein g forced to source elsewhere, and many japanese firms w ill need to finally come to terms with the cultural impli - cations of movi ng operati ons offshore. Cheaper imports are vita l to many japanese firms' weathering this excep- tionall y strong yen period. Hence, the second set of negot iations must take pl ace w ith j apanese customers, who, knowing full well that translated earn- ings are boosting the bottom line back home, are asking for pri cing conces- sions from foreigners pricing in yen. The same is true for group affi I iates in japan, who are trying to 1enegoti ate intercompany pricing arr angements. Transfer pri cing and tax pl anning com- plicate these negoti ation s (see p. 3). These and pmtectioni st issues lead to a situat i on where some products and commodity inputs are pri ced hi gher in Japan, independent of the FX rate. Some j apanese affili ates and cus- tomers may use the currency apprecia- tion as an excuse to try to negotiate for the off-shore pri ce. Currency of billing is a crucial fea- ture of all these commercial negoti a- tions. Asi a's treasurers at US MNCs shou ld put the word out to affiliates about the currency 1isk impli cations of changing invoic ing currencies, both positive and negat ive. " Peopl e in the fi eld often mi sunderstand the connec- t ion between the payment currency, the pri cing currency, and exchange exposure," notes one Singapore-based regional treasurer. For exampl e, he had one affiliat e manager come to him asking that pri c- ing be shifted from being denominated in doll ars to yen, which wou ld all ow the affili ate to raise pr ices to Japanese customers. The affili ate manager did not real ize that whi le receiving pay- ment in yen is no probl em, changing the pricing currency to yen shifted yen exposure to him. With talk of Asi a- Pacifi c becoming a yen bloc, there will be pressure to con- sider swi tching pr icing from doll ars to yen. " A lot of compani es w ill have a knee-j erk reaction to switch pri cing to th e hard er currency [i. e., the yen], notes I<B's Mr. Berg "and just about the time that they do, the market may finally reali ze that the doll ar's decl ine is overdone and it w ill soar toward the end of the year." These compani es will be on the wrong side of th e market (perhaps again). Whil e most compani es acknowl edge that the yen wi ll increasingly become a factor in Asian regional trade, few have noticed a major switch to yen- based pricing. On the other hand, many are aware that Southeast Asian basket currenci es like the Thai baht may tend to trend more toward the yen and apprec iate aga in st the doll ar, especiall y if the period of yen strength looks to become prolonged (see relat- ed story on p. 1 ). The strategic currency implications Because so many multinational s com- pete w ith j apanese co mpani es, responses to a pot enti al structura l change in the yen-doll ar exchange rate, as well as countermoves by yen- based compet itors, become a compa- ny-wide strategic initi ative. With the yen, then, the currency implications of doing busi ness internationall y take on an especially hi gh-l evel significance. Several US-company treasuri es, in industries with strong j apanese compe- tition, report unusu al " multi-hour" meetings with CEOs and senior man- agement. Whil e these meetings create extra work for treasury in researching an appropriate company response, they clearly benefit the company . As one international treasurer notes, " to the extent that you can get peopl e- as hi gh up as you can- to think about the impact currencies have on the way you operate th e business, you are adding value to the organization. " It can' t hurt for treasurers to take the opportunity, w ithin the context of such meetings, to hi ghlight their functions' value to th e underlying business in other areas and in other currencies. - Internati onal Treasurer/ May 1, 1995