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Forex hedging in practice
January, 10th 2008

The rupee is on an unrelenting rise. At the time of writing, the currency moved towards a 10-year high against the dollar, necessitating the central banks urgent intervention.

Meanwhile, companies with forex exposure are doing their best to cope with the exchange vagaries. Hedging has been a favourite among the finance chiefs as a risk management tool.

The philosophy of hedging is that we would not be worse off than economic factors dictate, says Mr N. Ramachandran, CFO of iGATE Global Solutions, an integrated technology and operations company, with over 6000 employees across offshore facilities in Bangalore, Chennai, Hyderabad and Noida.

For starters, hedging, a word with roots in hegg, from Germanic, grasp, refers to the taking of measures to offset any possible loss on a financial transaction, especially by investing in counterbalancing securities as a guard against price fluctuations, as http://encarta.msn.com defines.

And currency hedging, according to a finance glossary on http://lse.co.uk, aims at reducing or eliminating exchange rate risks by buying forward, using financial futures or borrowing in the exposed currency.

We thought through a lot and discussed internally at the highest levels on the hedging policy and then came up and built a robust system for hedging, at iGATE, recounts Mr Ramachandran, during a recent e-mail interaction with Business Line.

We were clear from very early on that we were not there to make money on hedging. If we do make profit on hedging transactions, that would only be incidental.

All hedging deals had to have two things, he adds. First, price transparency. We believe a whole load of transactions happen when there are cross currency deals (in hedging). Hence, as a prudent measure, we decided not to do cross currency deals. And second, We have to have a very easy exit route.

In addition, the company installed certain controls to ensure that any hedging done is benchmarked against a certain rate, based on expected cash flows over the next six months. We also benchmark against minimum forward rate that is available. We consider these two and then decide on the hedging position, elaborates the CFO.

Interestingly, he mentions how he keeps his hedging team on its toes all the time. As part of our hedging requirement, the treasury team has to submit a monthly P&L (profit and loss) statement on the hedging position. This is a prerequisite.

Clearly laid out hedging policies too help in control, acknowledges Mr Ramachandran. For example, any kind of transaction must be signed by at least two people in the management (CEO, CFO, Head of Treasury). Any transaction that goes outside the laid out hedging policy requires prior approval from the Board.

A variation, however, in the companys hedging strategy is the paid put option, which is like buying insurance. Typically, all our hedging does not involve an upfront cost. In a paid put option, there is an upfront cost that needs to be incurred. Such a situation requires the CEO and the CFO to sign off, reasons Mr Ramachandran.

Thus, proactively, we have several control measures relating to hedging at the highest levels in the organisation, he concludes, wrapping the hedging discussion, on a confident note.

D. Murali

 
 
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