A forward contract is an agreement to exchange currency at a future date based on a price agreed today. This is quite simply a buy now pay later solution. Ideal if you are concerned the rate will get worse and you want to protect your budget.
The problem with foreign exchange, is that exchange rates move constantly and change quickly. This volatility creates uncertainty leaving businesses unsure of what to do. The time difference between placing orders and paying for goods can be up to 2 or 3 months. That’s a lot of risk, when you consider how much the exchange rate could change in that time.
The economic and political instability in South Africa makes the Rand highly susceptible to large currency swings. It’s not uncommon for the Rand price to move as much as 3% in a single day. For this reason alone, small businesses cannot afford not to hedge themselves.
By fixing the exchange rate upfront, SME’s can plan ahead, control product pricing better and protect future profits against exchange rate erosion. Obviously this works both ways as the exchange rate could also move in your favour after the rate has been secured. That’s why its important for business managers to have a clear view of the market and understand their exposure.
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