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Spot Contract

A SPOT contract is the most basic and popular foreign exchange product. It is a binding obligation to buy or sell a certain amount of foreign currency at the current market rate. To settle a Spot contract on time, you need to make payment on the first day so we can remit your funds on the second.

Benefits:

  1. Enables you to take advantage of favourable exchange rates immediately.
  2. Foreign Currency can be purchased in smaller parcels to take advantage of favourable rates and then grouped to make a single payment on the due date.
  3. It is the easiest method of buying currency to make an international payment.
  4. Payments in advance, open account settlements and letters of credit all can be handled by Spot contracts.

Risks:

  1. Spot rates are highly unpredicatble. Hence, it is impossible to accurately predict an exchange rate on any future date (such as an invoice due date).
  2. Relying on the spot market for future foreign exchange requirements is a high risk strategy that can expose you and/or your company to unfavourable changes in foreign currency values.

Forward Exchange Contracts (FEC’s)

A Forward Exchange Contract (FEC) allows you to buy or sell one currency against another for settlement at a future date. Unlike Spot contracts, an FEC almost eliminates the uncertainty of fluctuating exchange rates by locking in a rate today. This hedging instrument is ideally used for protecting your future cash flow against negative currency fluctuations and also eliminates some of the uncertainty of doing business abroad.

To take out an FEC, you need to advise us of the amount, both currencies involved and the value (due) date of the contract. The exchange rate you receive is based on a number of factors including the value date, the current spot rate and, in each currency pair the current interest rates in each respective country.

If you go ahead with an FEC, you will need to return a signed copy of the agreement, which sets out your rights and obligations and also be required to pay 10% of the value of the contract as a security prepayment. The balance will be payable on the value date of the contract.

Benefits:

  1. A simple method of covering exchange risk, without having to worry about unfavourable movements in exchange rates.
  2. Overcomes the problems in budgeting as you can now budget for the future at a guaranteed rate of exchange.
  3. No premium required so you save in fees.
  4. You can settle the whole amount of the contract on one date, or you can take parts of the amount throughout the contract period.
  5. Allows you to set your pricing and rest assured that your costs will not increase.

Risks:

  1. Entering into an FEC locks in the exchange rate for the future delivery date, which precludes any potential financial benefit or loss resulting from subsequent exchange rate movements.
  2. A prepayment of the settlement amount is required throughout the term of the FEC. This is typically 10% of the total.
  3. During the term of the FEC, you may be required to increase your prepayment. This would occur if the exchange rate changes to such a degree that the pre-payment would not cover potential losses on the contract.
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