Risk Management
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Avoiding the Edge of the FX Risk Cliff

While the principles and concepts of FX risk management remain constant, the environment in which treasurers operate has changed dramatically over the past decade. During the past year alone, we have seen the rise of populism driving major shifts in political direction, emphasised through the results of the Brexit referendum and US presidential election. More than ever before, the FX markets are being shaped by immediate political events rather than longer-term economic trends, which in turn influences treasurers’ risk management approach.  The year ahead looks set for just as bumpy a ride, as the priorities under Trump’s presidency take shape, Brexit negotiations commence and key European elections in Germany, France, Italy and Netherlands take place. As we travel deeper into what is arguably a new era for risk management, how should treasurers equip themselves for the challenges ahead?

The new economics

To borrow a phrase from David Bloom, HSBC’s chief FX strategist, “Politics is the new economics”. This summarises exactly the state of the markets we saw in 2016, and are set to encounter in 2017. Most of the currency shocks that we saw in 2016, both in G10 and emerging currencies, such as the Mexican peso, renminbi and sterling, can be traced to a political event or major news story. Consequently, rather than simply analysing forecast economic data and taking a view on currency direction, treasurers need to be prepared for repricing following major announcements followed by the currency trading at new levels for an indefinite period. 

While much of the 2017 focus is on events in Europe and the United States, the impact is not only felt on G10 currencies, but on emerging market currencies too. Furthermore, political and economic uncertainties in Asia, Africa and Latin America, such as Thailand, Malaysia and Korea, and low, volatile commodity prices, could have significant effects on currency values.